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CAS Exam 6US > Odomirok - RBC > Flashcards

Odomirok - RBC Flashcards

1
Q

What are the 2 main components of the RBC System?

A

1.) RBC Formula:
Produces a minimum level of required capital (the ACL). The company’s recorded capital is compared to the minimum required capital, to produce the RBC ratio, which is compared to a range of values that define levels of company and regulatory action.

2.) RBC Model Act for Insurers
Provides state insurance regulators with authority to take specific action when a company’s RBC ratio falls below certain thresholds.

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2
Q

When are insurance companies required to file their RBC Report and where can a summarized version be found?

A

When:
a.) Insurers are required to file their RBC report with the NAIC by 3/1 based on information evaluated as of the prior year-end (12/31).

b.) Is confidential; details of the calculation are not available to the public.

Summarized Output:
the summarized results of the RBC formula are shown in the 5-Year Historical Data Exhibit

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3
Q

In the RBC formula how many categories are there and what are they?

A

There are 8 categories as follows:

R0 Subsidiary Insurance Companies and Miscellaneous Other Amounts
R1 Asset Risk – Fixed Income
R2 Asset Risk – Equity
R3 Asset Risk – Credit
R4 Underwriting Risk – Reserves
R5 Underwriting Risk – Net Written Premium
Rcat Catastrophe Risk
Operational Risk

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4
Q

What are the asset class RBC charges and what are they intended to measure?

A

R1 and R2 are risks associated with admitted invested assets (other than those in R0), shown on lines 1 to 11, column 3, on the asset side of the balance sheet

R1 considers changes in interest rates and potential default of fixed income investments (e.g., cash, bonds, mortgage loans).

R2 considers changes in asset valuations for non-fixed income investments (e.g., stocks, real estate).

R3 considers the credit risk with receivables on the balance sheet, including those on lines 14 and subsequent on the asset side of the balance sheet, as well as risks with reinsurance recoverables.

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5
Q

What are the Underwriting Risk categories of the RBC formula and what do they measure?

A

R4 Underwriting risk — Reserves
Concerned with past business,
risk that claims will develop
adversely

R5 Underwriting risk — Net written premium
Concerned with future business,
the risk that the company’s
business in the following year
will be unprofitable

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6
Q

What is the purpose of the covariance adjustment in RBC Formula?

A

The formula before operational risk is:

(R12 + R22 + R32 + R42 + R52 + Rcat2) 1/2

The components under the square root are subject to the covariance adjustment. This assumes that risks are independent and will not reach max values at the same time. R0 is not part of the adjustment as investments in insurance subsidiaries does not diversify.

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7
Q

What are the RBC Action Levels?

A
  • GT 300% - In the Clear, No department or company action
  • > 200% & <300% and trend test yields COR (Company Operating ratio >120%) - the CAL or Company Action Level
    Company must submit action plan to meet RBC Standards to insurance regulator of domiciliary state within 45 days
    COR = LED = Loss / NEP + Expense / NWP + Dividends / NEP
  • > 150 & <200 - CAL or Company Action Level
    Same as above, but no need for trend test
  • > 100 & < 150 - RAL or Regulatory Action Level
    Company must submit action plan to meet RBC Standards to insurance regulator of domiciliary state within 45 days
    Commissioner may take corrective action - no required
  • > 70% & <100% - ACL or Authorized Control Level Commissioner may take control of the company
  • <70% - MCL or Mandatory Control Level
    Commissioner must take control of the company
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8
Q

What does the R0 Charge Represent?

A

The R0 charge considers risks associated with investments in subsidiary insurance companies well as some miscellaneous off balance sheet items.

  • Specifically there are 4 items:
  1. Common Stocks in Subsidiary
  2. Preferred Stocks in Subsidiary
  3. Investments in Alien Insurance
  4. Company affiliates (ie foreign)/Off-balance sheet / other items
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9
Q

What is the formula for the RBC R1 Charge?

A

Formula: R1 = basic charge + BSC + ACC

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10
Q

How is the Bond Size Charge (BSC) calculated in the RBC R1 component?

A

R1 Bond Size Charge = BSF x (total R1 charges for bonds subject to BSF)

  • BSF = [(Sumproduct of First 50 x 2.5 + Next 50 x 1.3 + Next 300 x 1 + >400 x 0.9) / Total # of Bonds] - 1
  • Note only unaffiliated bonds class 1 - 6 are included in BSF (ie exclude US government bonds, collateral loans, and mortgage bonds, also excludes affiliated bonds)
  • Portfolios containing 1,300 or more bonds will receive a discount to their RBC charge for bonds.
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11
Q

How is the Asset Concentration Charge (ACC) calculated in the RBC R1 component?

A

Asset Concentration Factor: doubles the RBC charge for the 10 largest issuers that the insurance company is exposed to.
* The 10 largest issuers are:
determined by summing the insurer’s total investment (book/adjusted carrying value) across all investments (fixed income plus equity) for each issuer.

  • Not all assets are subject to the asset concentration factor:
    Some assets are of low risk (NAIC 1) or have received the maximum charge of 0.300 (NAIC 6). These assets are excluded in determining the 10 largest issuers.
  • Generally these are included: Unaffiliated bonds in classes 02 through 05, Collateral loans, Mortgage loans, Working Capital Finance Investments – NAIC 02, Low Income Housing Tax Credits
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12
Q

What is the formula for TAC (Total Adjusted Capital) and it’s purpose?

A

TAC = Policyholder Surplus (PHS) - non tabular discount - tabular discount on medical only

  • Purpose: Numerator of the RBC ratio formula = TAC / ACL
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13
Q

What does Operation Risk Cover?

L-PIPE

A
  • Legal risk
  • –
  • Personnel risk (in case you hired a dumb-ass intern)
  • Inadequacy or failure of internal systems
  • Procedural risk (and/or risk of failure of internal controls)
  • External risk (due to external events)
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14
Q

How is the R2 portion of the RBC formula calculated?

A

R2 = basic charge + ACC

  • Basic Charge: Sum of [ (asset values subject to basic charge) x (RBC factor) ]
  • ACC: Sum of [ (asset values subject to ACC for TOP 10 issuers) x (RBC factor) ]
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15
Q

What are the main components of the R3 component of RBC?

A
  • Non-Invested Assets
  • Reinsurance Recoverable
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16
Q

What are the non-investable assets and their factors?

R3

A
  • Investment Income Due and Accrued - 0.01
  • Amounts Receivable - 0.05
  • Federal Income Tax Recoverable - 0.05
  • Guaranty Funds Receivable - 0.05
  • Recoverable (parent/sub/affliates) - 0.05
  • Aggregate Write-ins for other than invested assets - 0.05

All 0.05 except for Investment Due and Accrued which is 0.01

17
Q

What is the factor for reinsurance recoverable?

Component of R3

A

The factor is 0.1

18
Q

What is the special rule for reinsurance recoverable as part of RBC?

A

If charge for non-invested assets + 1/2 of reinsurance recoverable charge is < R4 then split 50/50 with R4. Else it is 100% to R3.

Will almost always be split 50/50 as R3 is not likely to be larger than R4

19
Q

What are the main components of the R4 Charge in RBC?

A
  • Base Charge - Base R4
  • Loss Sensitive Discount - LSD
  • Loss Concentration Factor - LCF
  • Excess Premium Growth Charge (not always, but extra charge for rapidly growing companies to less UW’ing, etc.)
  • 1/2 of Reinsurance Recoverable Charge (assuming criteria is met)

Base Charge and LSD are line level, LCF is applied to all lines

R4 = (Base Charge - LSD) x LCF + Excess Premium Growth + 1/2 Reins

20
Q

How is the Line Base R4 Charge Calculated?

A

Line Base R4 Charge:
* [[(C + 1) x A] - 1] x Net Reserve
or
* [(C x A) + A - 1] x Net Reserve

Where
* C = [50% x Industry RBC] + [50% x Industry RBC x Company LDF / Industry LDF]
* A = Adjustment for Investment Income

Note the similarity to R5 = (C x A) + U - 1

21
Q

How is the Loss Sensitive Discount in R4 calculated

A
  • Line LSD = Line Base Charge x Line LSF

Where

  • Line LSF = 0.3 x D + 0.15 x A
  • D = % Direct Business that is Loss Sensitive
  • A = % of Assumed Business that is Loss Sensitive

After the lines are summed up for application of LCF

22
Q

How is the Loss Concentration Factor (LCF) of the R4 Charge Calculated?

A
  1. Determine Line of Business with the max reserve
  2. LCF = (Max Reserve / Total Reserve) x 0.3 + 0.7

Note for a Monoline carrier, the LCF = 1.0

Applied to summation of line of business charges after LSD

23
Q

How is the Excess Premium Growth Charge Calculated?

R4

A

Excess Premium Growth Charge = Excess Growth of NWP x 0.450 x net loss & LAE reserves

Where
* Excess Growth of NWP = Max(Average Growth latest 3 - 10%, 0)
* Note: each year capped at 40% before taking average.
* If growth less than 10% then no charge

Similar to th R5 Charge

24
Q

How is the Line Base R5 Charge Calculated?

A

Line Base R5 Charge:
* [(C x A) + U - 1] x Net Written Premium

Where
* C = [50% x Industry RBC] + [50% x Industry RBC x Company Loss & LAE Ratio / Industry Loss & LAE Ratio]
* A = Adjustment for Investment Income
* U = Underwriting Expense

Note the similarity to R4 = (C x A) + A - 1

25
Q

How is the Loss Sensitive Discount (LSD) calculated for R5?

A

This is essentially the same calculation as the one used in R4.
* Line Base Charge x LSF
* Where LSF = 0.3 x % Direct Loss Sensitive + 0.15 x % Assumed Loss Sensitive

26
Q

How is the Premioum Concentration Factor (PCF) of the R5 Charge Calculated?

A

Very similar to the LCF Charge in R4, but using net premium instead of reserves

  1. Determine Line of Business with the max reserve
  2. PCF = (Max Premium / Total Premium) x 0.3 + 0.7

Note for a Monoline carrier, the PCF = 1.0

Similar to LCF in R4

27
Q

How is the Excess Premium Growth Charge Calculated?

R5

A

Excess Premium Growth Charge = Excess Growth of NWP x 0.225 x NWP

Where
* Excess Growth of NWP = Max(Average Growth latest 3 - 10%, 0)
* Note: each year capped at 40% before taking average.
* If growth less than 10% then no charge

Similar to the R4 Charge

28
Q

What is the main Rcat Formula

A

[(Total EQ Risk)2 + (Total Hurricane Risk)2]0.5

29
Q

How do you calculate the Total EQ and Total Hurricane risk components of Rcat?

A
  • The calculations are the same for each EQ and Hurricane
  • Given a table of 1-in-N year events find the 1-in-100 year row.
  • The D&A component gets a factor of 1.0
  • The Ceded (Net - D&A) component gets a factor of 0.048 for credit risk on recoverables.
  • The pieces are then summed.

After each piece is calculated apply the Rcat formula.

30
Q

List 2 excemptions from Rcat.

A
  1. There are exemptions granted when certain conditions are met that indicate a low net catastrophe exposure, such as coverage is less than 10% of PH surplus
  2. The credit risk charge (0.048) is waived for US Affiliates and and mandatory pools.
31
Q

Identify the charges that the operational risk charge contemplates.

A
  • inadequacy or failure of internal systems
  • personnel
  • procedures or controls
  • external events
  • legal risk

It does not include reputational risk arising from strategic decisions.

32
Q

What are some similarities between RBC and IRIS?

A
  • Early Warning: Both frameworks are used as an identify insurers that may become insolvent
  • Quantitative: Both frameworks are formulaic metrics
  • Both lay out numeric thresholds for regulators to follow as guidelines for financial trouble warnings.
  • Annual Statement Data: Both are quantitative risk measures using data from the annual statement (not easy manipulated)
  • Excessive Growth: Both RBC and IRIS penalize an insurer for growing rapidly
  • Both frameworks attempt to measure the financial solidity of an insurer.
33
Q

What art some differences between RBC and IRIS frameworks?

A
  • Minimum Capital: RBC is used to calculate a minimum amount of capital that an insurer should carry, and IRIS ratios do not.
  • Authority to regulate/intervene: Authority is granted to take action by the RBC model act. IRS framework does not
  • Bond Quality: RBC penalizes an insurer for low grade bonds; IRIS does not.
  • Adequcy of reserves: RBC does not consider the adequacy of reserves, while the IRIS structure focuses on that risk.
  • Regulator Action: RBC model act authorizes that regulator can take specific action if RBC ratio falls below a certain point. If IRIS ratio is unusual, further financial analysis is needed, but cannot take action solely based on IRIS ratio.
34
Q

What is RBC Ratio Formula?

A

RBC Ratio = TAC / ACL

Where
* TAC = Policyholder Surplus (PHS) - non tabular discount - tabular discount on medical only
* ACL = RBC Capital x 0.5

35
Q

What is the RBC Capital Formula?

A

[R0 + (R12 + R22 + R32 + R42 + R52 + Rcat2) 0.5] x 1.03

36
Q

Where do the R3 reinsurance recoverable inputs come from?

A

Rember that RBC uses Annual statement inputs.
* Note that the RBC charge for reinsurance recoverables comes directly from Schedule F, Part 3, Columns (35) & (36):
* Column (35): Credit Risk on Collateralized Recoverables
* Column (36): Credit Risk on Uncollateralized Recoverables

CAS Exam 6US (19 decks)

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