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CAS Exam 6C > CIA - FCT1 > Flashcards

CIA - FCT1 Flashcards

1
Q

What is the purpose of stress testing? (4)

A
  • identify & control RISK
  • provide a COMPLEMENT to other risk management tools + simulate shocks
  • support CAPITAL MANAGEMENT
  • improve LIQUIDITY MANAGEMENT
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2
Q

Describe Risk ID and Risk Control with regards to the purpose of stress testing.

A

RISK ID: identify concentrations & interactions of risk

RISK CONTROL: adjust individual portfolios and overall business strategy

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3
Q

Describe Complementing other tools with regards to the purpose of stress testing.

A
  • to test the statistical models USED to determine Value-at-Risk
  • simulate SHOCKS to test a model’s robustness to economic changes
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4
Q

Describe supporting Capital Management with regards to the purpose of stress testing.

A

To identify SEVERE events and/or COMPOUNDING events that impact capital requirements.

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5
Q

Describe improving Liquidity Management with regards to the purpose of stress testing.

A

To ASSESS liquidity profile & adequacy of buffers FOR institutional & market-wide stresses.

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6
Q

Identify the elements of FCT (Financial Condition Testing) (5)

A

1) BASE scenario
2) Adverse Scenario
3) Corrective Action
4) Report
5) Opinion

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7
Q

Describe FCT process step 1 - Base Scenario

A

Base Scenario: must develop a base scenario (usually is, or is based on, the insurer’s current business plan)

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8
Q

Describe FCT process step 2 - Adverse Scenario

A

Adverse Scenario: Must analyze the impact of several adverse scenarios
Ex.: drop in the stock market

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9
Q

Describe FCT process step 3 - Corrective Action

A

Corrective Action: Identification and analysis of corrective management action to mitigate risk

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10
Q

Describe FCT process step 4 - Report

A

Report: Submit recommendations to management and the board of directors (or Chief Agent)

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11
Q

Describe FCT process step 5 - Opinion

A

Opinion: Appointed Actuary (AA) signs an opinion regarding the financial condition of the insurer

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12
Q

Identify key metrics that must be understood when performing FCT (2)

A
  • regulatory capital minimum

- insurer’s internal target capital requirements

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13
Q

Identify the ‘preliminary’ step and the ‘extra’ step in addition to ‘BACRO’ when performing the FCT

A

Preliminary - Review the financial condition at year end for each year in the historical period
Extra - identify possible regulatory action

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14
Q

What is a review of operations and financial position?

A
  • review the B/S, the Statement of Income, and the source of earnings for an appropriate amount of years
  • analyze any trends in the these numbers
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15
Q

What is the forecast period for the FCT?

A

The forecast period should be long enough to capture:

1) risk emergence
2) financial impacts
3) ripple effects
4) corrective action
- > Generally, this means 3-5 years; although, there is no minimum (should also be consistent with ORSA)

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16
Q

How do you determine the Materiality Standard for FCT?

A

FCT sets the materiality standard with management input and by specifically considering:

  • the size of the insurer
  • the insurer’s financial position
  • the nature of the regulatory test
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17
Q

Define the term Base Scenario.

A

A set of assumptions on risk factors that are consistent with the business plan over the forecast period (if the plan is realistic and consistent).

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18
Q

Define the term Adverse Scenario.

A

A scenario that is developed by stress-testing assumptions used in the business plan.
- look specifically for risk factors that threaten financial condition

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19
Q

Define the term Solvency Scenario.

A

A plausible adverse scenario (an adverse scenario that has a non-trivial probability of occurring).

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20
Q

Define the term Going Concern.

A

An adverse scenario that is more likely and/or less severe than the solvency scenario (could include risks that are not considered in the solvency scenarios).

21
Q

What is a Ripple Effect?

A
  • An event that occurs WHEN an adverse scenario triggers a change in 1 or more interdependent assumptions.
  • can include policyholder actions, management’s routine actions, regulatory actions
    Ex.: a ripple effect of an earthquake may be the loss of reinsurance
22
Q

What is a Corrective Management Action?

A

An action that management takes to mitigate adverse ripple effects.

23
Q

What is an Integrated Scenario for FCT?

A

A scenario created by combining two or more risk factors to produce a new plausible adverse scenario.
Ex.: combine a low-probability scenario with a higher-probability adverse scenario

24
Q

Identify considerations in the development of a climate change integrated adverse scenario. (3)

A
  • Physical risk: frequency and severity of wildfires, floods, wind events, rising sea levels
  • Transition risk: due to economic shift to greener technologies
  • Liability risk: exposure to climate-related litigation
25
Q

Identify key elements (4) that an FCT model should reproduce.

A

1) Balance Sheet: assets, liabilities, retained earnings, etc.
2) Income Statement: revenue and expenses
3) regulatory measures of capital adequacy: MCT Ratio, and possibly others like BCAR or MSA Ratios
4) Sources of Earnings: detail on sources of premium and investments

26
Q

What is the recommended loss distribution percentile for a going-concern scenario?

A

90th to 95th percentile (if the loss distribution and percentiles are available)

27
Q

What is the recommended loss distribution percentile for a solvency scenario?

A

95th to 99th percentile (if the loss distribution and percentiles are available)

28
Q

How does an actuary validate an FCT model on an accounting basis?

A

Verify: Statement of Income = Cash Flows + Change in B/S items

29
Q

How does an actuary validate an FCT model in a static environment?

A

Base Scenario should show continuity of results from year-to-year (cash liabilities, surplus, etc.)

30
Q

How does an actuary validate a new FCT model or a model update?

A

New Model: Run data at (t-1) and compare to the actual data at (t)
Model Update: do a retrospective test; compare prior base scenario projection to current data.

31
Q

How does an actuary validate an FCT model in a changing environment?

A

Ask: does the model properly QUANTIFY changes in results under different assumptions?
Compare: 2 adverse scenarios (magnitude and direction of the change should be consistent with assumptions)

32
Q

When is a stochastic FCT model appropriate? (2)

A
  • when risk distributions are easily inferred (Ex.: CATs)

- capital market risks

33
Q

When is a deterministic FCT model appropriate? (2)

A
  • when risk distributions are NOT easily inferred

- the actuary then selects scenarios based on historical experience and the credibility of data

34
Q

What is a combination stochastic/deterministic model?

A

When the Results of a stochastic model are use to Derive a deterministic scenario that Reproduces the stochastic results.

35
Q

How are Ripple Effects in an FCT analysis modeled? (2)

A

Automatically: by computer model
Manually: by the actuary selects them based on knowledge of the situation

36
Q

What are some considerations in FCT model segmentation? (3)

A

Management: segment around management structure
Product: smallest subdivision - may combine similar products
Investment: asset categories

37
Q

What is the purpose of an FCT report?

A

Communication to the BoD:

  • Identify risks to an insurer’s financial condition
  • Identify ways to mitigate and reduce risk
38
Q

Who are the audiences for an FCT report? (3)

A

1) The BoD: prefers an interpretive summary (as opposed to a detailed statistical report)
2) Management: receives a more detailed report
3) Regulator: Focuses on solvency issues

39
Q

Identify the possible types of opinion that an actuary could include in their FCT report. (3)

A
  • Satisfactory
  • Satisfactory subject to appropriate corrective action
  • Not Satisfactory
40
Q

What are the conditions require so that the actuary can report the financial condition of an insurer is satisfactory? (3)

A

The following conditions must hold throughout the forecast period:

1) under the base scenario: insurer meets its internal target capital ratio(s) as determined by the ORSA
2) under the going concern scenarios: insurer meets the regulatory minimum capital ratio(s)
3) under solvency scenarios: must have a surplus (assets > liabilities)

41
Q

How many adverse scenarios should an FCT report include?

A
  • at least 3 (includes 1 going-concern scenario and 2 solvency scenarios)
  • they should also be chosen from multiple risk categories
42
Q

Identify the P and C Risk Categories. (Hint: F-PIP-RIGOR)

A
  • Frequency and Severity
  • Policy Liabilities
  • Inflation
  • Premiums
  • Reinsurance and Counter-party Risk
  • Investment Risk
  • Government Risk
  • Off-Balance Sheet risk
  • Related Company Risk
43
Q

Identify common Ripple Effects. (7)

A
  • Higher LR (due to higher losses or operating costs)
  • Loss of reinsurance
  • Post-event inflation
  • Forced sale or liquidation
  • mix shift
  • Policyholder actions
  • regulatory action
44
Q

Identify common corrective management actions. (5)

A
  • Tighten U/W guidelines
  • Raise rates
  • Review reinsurance
  • Sell assets
  • Review mix of business (geography, limit, etc.)
45
Q

Identify methods of selecting adverse scenarios. (2)

A
  • percentiles (if a loss distribution is available)

- reverse stress-testing

46
Q

Describe the method of Reverse Stress-testing in a FCT analysis.

A
  • Consider specific adverse scenarios where the insurer’s surplus becomes negative (i.e.: liabs > assets)
  • Then, work backwards to determine the risk factors require to produce the scenario.
  • Assess if it’s plausible for risk factors of the insurer’s current financial position to deteriorate to that degree
    • if yes, then this adverse scenario may be a solvency scenario
47
Q

Should the actuary integrate the FCT report with the ORSA report or keep them separate?

A

The actuary should use judgement - may produce 2 independent reports, or 1 integrated report.

48
Q

Identify considerations supporting the integration of the FCT and ORSA. (4)

A

1) FCT uses internal target capital ratios developed by ORSA
2) ORSA is useful in assessing adverse scenarios
3) may be more efficient to integrate the reports (both require data collection and similar types of analysis, both may be released at the same time)
4) a single integrated report may be better for the end user

49
Q

Identify challenges regarding integrations of the FCT and ORSA. (3)

A

1) Oversight: AA is responsible for FCT, whereas the board and the senior management is responsible for the ORSA
2) Different Methodology: FCT follows a prescribed regulatory basis while the ORSA reflects own models and assumptions
3) Staff Responsible: different for FCT vs ORSA and coordination may be costly

CAS Exam 6C (70 decks)

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