C - AM Best Understanding BCAR Flashcards Preview

Exam 6C (Fall 2018) > C - AM Best Understanding BCAR > Flashcards

Flashcards in C - AM Best Understanding BCAR Deck (13):
1

AM BEST UNDERSTANDING BCAR

What does BCAR calculates?

BCAR = SURPLUS / NET CAPITAL REQUIRED (for investment, credit, and uw risks) compared to economic capital

It is one component to evaluate BALANCE SHEET STRENGTH, which, along with OPERATING PERFORMANCE and BUSINESS PROFILE, is used to calculate Best's FSR (financial strength rating)

2

AM BEST UNDERSTANDING BCAR

Purpose of Best's FINANCIAL STRENGTH RATING (FSR)

3 components of the Best's FSR

--purpose--
to give an opinion on :
1) financial strength
2) ability to meet obligations to policyholders

1) Balance Sheet Strength
2) Operating Performance
3) Business profile

3

AM BEST UNDERSTANDING BCAR

Define
balance sheet strength

3 kinds of LEVERAGE to assess balance sheet strength

measure the exposure of surplus to its operating and financial practices

--UW Leverage--
from
types of business written
quality of reinsurance
adequacy of loss reserves

--Financial Leverage--
from debt instruments

--Asset Leverage--
from
investments
interest rate risk
credit risk

4

AM BEST UNDERSTANDING BCAR

3 stress tests within BCAR

1) above-normal catastrophes
2) a decline in stock markets
3) a rise in interest rates

5

AM BEST UNDERSTANDING BCAR

3 risks categories used in the calculation of AM Best's net required capital

1) UW RISK- 2/3 of required capital
from premium written, loss reserves and reinsurance

2) INVESTMENT RISKS
from
fixed-income securities, equities, interest rates

3) CREDIT RISK
3rd party default risk

6

AM BEST UNDERSTANDING BCAR

How statistical independence of the individual components of BCAR are reflected in the formula

Individual components are subject to the "square root rule" covariance calculation to account for statistical independence

this covariance adjustment says it is unlikely all the individual risk components will develop at the same time, so it reduces overall required capital between 35% to 45%.

7

AM BEST UNDERSTANDING BCAR

Contrast BCAR vs MCT

in BCAR, a important proportion of capital is required to support FUTURE PREMIUM RISK, reflecting AM BEST view that balance sheet strength must support the current and future risks.

8

AM BEST UNDERSTANDING BCAR

2 categories encompassed by UW risk and

how much capital is required for UW risk

1) loss and loss adjustment expense reserves
2) net premium written

UW risk account for 2/3 of gross required capital

9

AM BEST UNDERSTANDING BCAR

how long term duration contracts affect risk and how to capture the difference

they create larger unearned premium reserves, which leads to a larger pricing risk

to capture this increased risk, unearned premium for long duration contracts will be included on the loss reserve page instead of the pricing risk page in an effort to reflect diversification from business being written in the future versus business written in the past.

10

AM BEST UNDERSTANDING BCAR

On what AM BEST stresses BCAR?

incorporate natural and/or man-made events such as terrorism to monitor how sensitive balance sheet strength is to a second CAT event

11

AM BEST UNDERSTANDING BCAR

Purpose of SQUARE ROOT RULE

Shortcoming of square root rule

how it can be counterbalanced

Adjusting for fact that individual risk components are not likely to develop simultaneously.

More capital-sensitive UW risk are accentuated and less capital-sensitive are diminished, relative to net required capital

By using other distinct capital measures

12

AM BEST UNDERSTANDING BCAR

Example of market issues that could be considered in capital

Rate changes
Stage of UW cycle
Change of reinsurance
Dependence on reinsurance

13

AM BEST UNDERSTANDING BCAR

Limitation of BCAR

Not the sole basis to evaluate financial strength

Must also consider operating performance and business profile