C - OSFI Earthquake

Question 1

OSFI EARTHQUAKE

3 EQ coverages offered in Canada

Answer 1

SHAKE INSURANCE

• -as an endorsement
• -covering property and content

FIRE FOLLOWING AN EQ
– as an endorsement

TSUNAMI FOLLOWING AN EQ

• -impact limited to coast
• -but enormous destructive power
• -may or may not be provided

Question 2

OSFI EARTHQUAKE

Define
Risk Appetite
Risk Tolerance

Answer 2

–risk appetite–
QUALITATIVE ASSESSMENT
total level and type of exposure an insurer is willing to take to achieve business objectives

–risk tolerance–
Limit on level and AMOUNT of risk an insurer is willing to accept (for each relevant risk)

Question 3

OSFI EARTHQUAKE

Define PML (Probable Maximum Loss)

Define PML in the context of probabilistic models

Define Gross PML

Define Net PML

Answer 3

Threshold $ value of loss above which loss caused by a major EQ are unlikely.

$ value of loss expected to be exceeded once in every X years

PML (after deductible, but before reinsurance)

PML (after deductible, after reinsurance)

Question 4

OSFI EARTHQUAKE

5 factors on which EQ exposure risk management for a company should depend.

Answer 4

TRUC : Qu’est-ce qui serait une catastrophe? CONSR!

• Corporate Strategy
• Ownership
• Nature
• Size
• Risk Profile

Question 5

OSFI EARTHQUAKE

3 good corporate governance (risk management techniques) for EQ risk

Answer 5

1. AVOID risk
2. MITIGATE risk
3. TRANSFER risk

Question 6

OSFI EARTHQUAKE

Contrast :
Board, Sr Management and Actuarial responsibilities
on
EQ exposure risk management policy

Answer 6

Board
Oversight and Ensure Policy is effectively implemented

Sr Management

• Responsible for IMPLEMENTING the policies
• Exposure management should be an ongoing process

Actuarial

• review models used to determine exposures
• adequacy of reinsurance
• pricing of EQ insurance

Question 7

OSFI EARTHQUAKE

BOARD responsibilities about EQ policies and risk management?

Answer 7

• Ensure Controls are in place to monitor the effectiveness
• OVERSEE the development of EQ policies and ensure they are correctly IMPLEMENTED
• REVIEW AND DISCUSS in annual review of CAT risk Management.

Question 8

OSFI EARTHQUAKE

5 key principles in managing EQ risk.

Answer 8

1) EQ-EXPOSURE RISK MGMT
oversight by Board, implemented by Sr Mgmt

2) EQ-EXPOSURE DATA
captured and tested for consistency, accuracy, completeness

3) EQ MODELS
user must understand their AML (assumptions, methods, limitations)

4) PML
must consider data quality, non-modeled exposures, model uncertainty and exposure to multiple regions

5) FINANCIAL RESOURCES AND CONTINGENCY PLAN
adequate to manage through major EQ

Question 9

OSFI EARTHQUAKE

items that should be included the EQ policies and procedures.

Answer 9

• RISK APPETITE and RISK TOLERANCE for EQ insurance
• Data Mgmt practices
• EXPOSURE AGGREGATION Monitoring and reporting
• Estimation of PLM factors
• Adequacy of financial resources in relation to PML
• Contingency Plan
• Consideration of potential increase in operating costs.

Question 10

OSFI EARTHQUAKE

4 methods to improve the appropriateness, completeness and accuracy of the DATA COLLECTION of EQ data

Answer 10

• Score data quality at time of UW
• Delete sources with inadequate data
• Implement safeguards to prevent miscoding
• Invest in technology to improve data quality

Question 11

OSFI EARTHQUAKE

OSFI’s expectation on DATA VERIFICATION in EQ Risk Mgmt

Answer 11

• Insurers verify that their DBs capture all data received
• Reinsurers have processes to ensure quality of data received by cedent.
• Perform an aggregate analysis of overall data quality

Question 12

OSFI EARTHQUAKE

Role of Sr Mgmt in case of data limitation in EQ exposures

Answer 12

• to understand impact of data limitations on projections (and adjust with prudence)
• to review data annually by independent individuals
• to address concerns identified in reviews
• to select a time frame to update data and model results

Question 13

OSFI EARTHQUAKE

4 methods to TEST the completeness, accuracy and consistency of EQ exposure data.

Answer 13

1) summarize data by occupancy, construction, geocode
2) compare YoY exposure chg and compare with historical data
3) use historical experience to identify coding issues vs model constructions
4) run data quality sensitivity tests and incorporate them in risk decision making

Question 14

OSFI EARTHQUAKE

***7 BEST Practices for EQ Modeling

Answer 14

DOCUMENT
document use of model within Risk Mgmt program (ex. for measuring and monitoring exposures)

ALTERNATIVES
explain why a particular model is used vs alternatives

QUALIFIED
qualified employees runs in-house models regularly

KNOWLEDGE
must have knowledge of AML (ASSUMPTIONS, METHODOLOGIES, LIMITATIONS) of EQ model

DATA
should provide evidence that granularity and quality of data is appropriate

UNCERTAINTY
understand the impact of uncertainty on capital adequacy and reinsurance requirements

PMLs
if PML(model1) <> PML(model2) then must explain differences and any subsequent model adjustments

Question 15

OSFI EARTHQUAKE

3 sound practices for:

EQ MODEL VERSIONS

EQ MODEL VALIDATION

Answer 15

• -eq model versions–
  1) CONSIDER USE OF MORE THAN ONE MODEL

2) WHEN USING VENDOR SOFTWARE, UNDERSTAND THE MODEL, USE and LIMITATIONS
3) FOR IN-HOUSE MODELS, REGULAR UPDATE AND TEST PML REGULARLY against other commercial models.

• -eq model validation–
  1) ensure model prudently capture risk based on actual events

2) compare few major historical EQ to model and assess difference
3) compare the modeled tail losses to market price for reinsurance coverage
4) process should be documented

Question 16

OSFI EARTHQUAKE

3 examples of “non-modeled” exposures (not considered in EQ model) that should be considered in EQ PML

Answer 16

• blanket coverage
• guaranteed replacement costs
• increase of seismicity after a large event

Demand surge
Storm surge
Addt living expense

Question 17

OSFI EARTHQUAKE

2 disadvantages of using the greater of BC and QC PMLs to determine Probable Maximum Loss

Answer 17

1) this approach understates PML for insurers with significant exposures in both zones
2) it ignores exposures elsewhere, which can have a material impact
3) EQ PMLs should be reported to Sr Mgmt based on Countrywide exposure

Question 18

OSFI EARTHQUAKE

4 financial resources that could be used to support EQ exposures

Answer 18

1) capital (surplus) 
Maximum 10% of capital and surplus
2) EQ reserves
3) reinsurance coverage
4) hedging for CAT events

Question 19

OSFI EARTHQUAKE

4 elements that a contingency plan should consider in case of a catastrophe

Answer 19

1) emergency communication
2) availability of claims personnel
3) off-site system backup
4) reinsurance records

Question 20

OSFI EARTHQUAKE

4 considerations when calculating the PML

Answer 20

(1) DATA QUALITY
understand impact of data limitations on estimates and adjust them prudently

(2) NON-MODELED EXPOSURES
identify exposures not included in the model

(3) MODEL UNCERTAINTY
factor a margin to reflect uncertainty of assumptions

(4) EXPOSURES TO MULTIPLE REGIONS
not sufficient to only base PML on larger of BC and QC PMLs, as it understates the PML for insurers with significant exposure in both region

Question 21

OSFI EARTHQUAKE

Compare how PMLs should be reported to OSFI for foreign and Canadian Insurers when there is an EQ exposure outside of Canada

Answer 21

–Foreign–
report PMLs based on Canadawide exposure

–Canadian–
report PMLs based on Worldwide exposure

Question 22

OSFI EARTHQUAKE

One restrictive condition for each of following FINANCIAL RESOURCES if insurer use them to support their EQ exposures

Capital Market Financing
Reinsurance Coverage

Answer 22

–capital market financing–
prior approval from OSFI before being recognized as FINANCIAL RESOURCE

–reinsurance coverage–
if non-cat reinsurance, must demonstrate that it considered per-event limits