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Evgeni Krumov

on 6 January 2016

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Balance sheet analysis
Macro economic analysis
SCR and Return calculation
Asset reallocation
The European Union (EU) Directive Solvency II (SII) aims to harmonize the union’s insurance regulation by introducing capital requirements for financial risk and concerns the amount of capital that EU insurance companies must hold to reduce the risk of insolvency.
Macroeconomic analysis
MIRM XVI Stratex team

It is an opportunity based approach for enhancing the transparency of the governance and the risk management.
The Solvency II Directive is a regulatory framework for the European
insurance industry that adopts a more dynamic risk -based approach and implements a non-zero failure regime, i.e., there is a 0.5 percent probability of failure.
Interest rate

Interest rate risk exists for all assets and liabilities for which the net asset value is sensitive to changes in the term structure of interest rates or interest rate volatility.


Equity risk arises from the level or volatility of market prices for equities. Exposure to equity risk refers to all assets and liabilities whose value is sensitive to changes in equity prices.

Spread risk results from the sensitivity of the value of assets, liabilities and financial instruments to changes in the level or in the volatility of credit spreads over the risk-free interest rate term structure.

Property risk arises as a result of sensitivity of assets, liabilities and financial investments to the level or volatility of market prices of property.
Contacts: stratex@alumni.mib.edu

In 2014 the real GDP trend reflected the slow recovery of the Euro Zone with an annual percentage of – 0.4% in 2013 and an increase to 0.8% in 2014.
Nevertheless the growth is expected to increase at 1.5% for the whole 2015 and then rise slowly in 2016 up to 1.7%, thanks to an
improvement in foreign and domestic demands.

This year the inflation rate is expected to continue to remain low (0.2%), with a reduction in commodity costs and in particular concerning energy and food products.

During the last years interest there was a very low level of interest rates. In 2014 there was a partial recovery, although it remained weak, since the interest rate reached 0.5%; for 2015 it is expected to stay stable at 0.5%.

Italy’s economy grew on average 1.3%. Because of a sudden stop in private capital flows in 2009 it triggered by the global economic crisis, the economy had a reduction of -5.5%. The real GDP contracted 2.8% and 1.7% and 0.4% respectively in 2012, 2013 and 2014.

A record low of -0.60% is recorded in January of 2015. From 2013 the inflation decreased due to the persistent weakness of international demand, the reduction of raw material prices and the large spare capacity in developed countries. In 2015 and 2016 the CPI is supposed to reach respectively 0.2% and 1 %.
Thank you!
Market Risks

SCR and Return calculation
Asset Reallocation

Balance Sheet Analysis
Assets: the major quote is represented by bonds (65%). An important role is given to Government Bonds (54% of the portfolio) because of the given low portion of SCR that has to be paid in comparison to their quote of investment
Liabilities: The greatest part of the company's liabilities is composed by Technical provisions, above all life- business related.

Assets composition
Liabilities composition
This duration gap is really common in insurance companies that are characterized by long- term liabilities and short- term assets.
Moreover, the analyzed insurance company has as its main business life contracts confirming the trend of the duration gap.

Assets and Liabilities' durations
European Asset Allocation
Geographical Asset Allocation
The portfolio reallocation is an action to bringing a portfolio that has deviated away from one’s target asset allocation back into the line.
The objective of this rebalancing activity is to achieve better results in terms of returns and Solvency Capital absorbed.
The objective is build a new portfolio, which presents the same invested capital in each asset class considered, but, at the same time, higher return and lower SCR.
The starting point is the initial portfolio.
The invested capital of each asset class is an input of the model.
In this presentation it is considered fixed.
The scenario simulation model proposed contain two main phases:
Asset Selection
Simulation of the weights of each asset in order to identify the best combination.

Scenario Simulation Model
Second Phase
First Phase
From a universe of 114 different investments, are selected, for each asset class the assets with the highest ratio between “Relative Return Rate” and the “Relative SCR” (SCR expressed in percentage).
Relative Return Rate and Relative SCR do not provide the exactly amount of the Return Rate and the capital absorbed according to SOLVENCY II Standard Formula, because they do not count the effect of the correlation, but they are only only used as an estimation of the performance.
When the best scenario is identified, a consistent estimation of the SCR will be calculated
In the second phase are simulated 10000 scenarios of possible weights of each assets in order to identify the best combination of invested capital
Each scenario represents a possible combination of weights for all the assets of the new portfolio on the total capital invested of the asset class.
For each scenario is calculated the ratio between the sum of each relative return and the sum of each relative SCR.
The best scenario is considered the scenario with the highest value of this rapport
When the model identify the best portfolio, SCR and Expected Return can be calculated according the Standard Formula Approach.

Result: best portfolio selected
In the portfolio selection equities of the second type (Equity Other) are excluded from the portfolio because they required higher SCR not justified by the returns obtained.
Follows the decision to allocate capital only to the Equity Global assets, which present higher ratings and lower SCR.
The SCR Mkt is adopted in a DOWN scenario because in this case it is considered more prudent.
The new SCR is 18% lower than the SCR of the old Portfolio.
The lower level of SCR ha a positive impact also on the OWN FUNDS/ SCR ratio, which is increased of the 18%
The most interesting results is obtained in terms of Total Expected Return, which is increased of the 341%
Consequently RAROC increases of 406%
Interest rate risk and return
SCR calculation :
Liabilities default method
Assets: simplified method

Return calculation :

Equity risk and return
SCR calculation :
Return calculation :

Spread risk and return
SCR calculation :
Return calculation :

Property risk and return
SCR calculation :
Return calculation :

For the IRR requirement, the value obtained in the down situation is used, given that it provides us a more prudent result;
The highest portion of requirement comes from equity SCR (76%) because of their high volatility;
The diversification allows to decrease the solvency capital requirement of 7.83%;

Furthermore, other indicators show that company X has a good shape:
Full transcript