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Solvency II : nat cat calculation ignores 15 years of critical evolution

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Aon Benfield, reinsurance intermediary and capital advisor, is warning that natural catastrophe calculations are ignoring 15 years of critical evolution under the currently proposed Solvency II Standard Formula, which could lead to higher capital requirements for insurers when the regulation comes into force. In response, the intermediary is offering a suite of Solvency II-friendly services to help clients make the most of the catastrophe requirements, including advice on how re/insurers can use a partial internal model to assign a more appropriate capital charge.

Catastrophe risk is a key driver for capital under Solvency II, with the benchmark to withstand a 1-in-200 year event for natural and man-made disasters. There is a basic calculation method that insurers can use to determine their Solvency Capital Requirement. However the methodology for the standardized scenarios for natural catastrophe modeling overlooks key data features including:

– Location granularity (CRESTA zone data is insufficient)

– No differentiation by occupancy (residential, commercial or industrial) or construction, age and height

– Single damage function so no differentiation between buildings, contents and business interruption cover

– No application of limits and deductibles

The use of CRESTA zone data in exposure calculations was common 15 years ago, but now most re/insurers (and all commercial catastrophe models) utilize far more detailed data. This means re/insurers could be relying on inaccurate data to establish their risk, resulting in higher capital requirements.

In face of the new regulation and beyond, Aon Benfield is bringing its Impact Forecasting, catastrophe management, and actuarial capabilities together to offer support throughout the catastrophe risk process so re/insurers can better understand their risks, justify their views to regulators and reap the benefits of a partial internal model. These comprise:

– Training on the drivers within catastrophe models

– Model evaluation

– Building transparent catastrophe models with Impact Forecasting

– Data audits and benchmarking

– ReMetrica, a dynamic financial analysis tool, to understand the impact of cat risks on capital.

Paul Miller, head of international catastrophe management at Aon Benfield, said: “The proposed Standard Formula for catastrophe is a disappointing backward step in catastrophe modelling. For the majority, the standard approach will be inappropriate or give unreasonable results as data quality and portfolio differentiators are totally ignored. The next two years are crucial for brokers to provide catastrophe modeling support as re/insurers register internal models with the regulator and demonstrate how they are using advances in catastrophe modeling to obtain a more realistic picture of their risks.”

Source : Aon Benfield Press Release