At Catlin we strive to have strong risk management practices in place throughout our group. We are continually challenged by our Board, our regulators, the rating agencies and our investors to demonstrate the strength of our risk management programme in real terms.
Twenty-five years since Catlin was established, many of the components of an enterprise risk management (ERM) framework exist throughout our organisation. Recently, our efforts were recognised by Standard & Poor's, which upgraded our ERM capability to 'Strong'. S&P cited:
- Strong risk management and risk governance;
- Explicit risk appetite measures;
- Setting risk-adjusted underwriting targets;
- Pricing models that provide risk adjusted performance measurement for individual risks;
- A robust capital model;
- Prudent catastrophe modelling;
- A portfolio management project to improve risk/reward trade off;
- Actuaries and technicians embedded in our underwriting units;
- Compensation linked to risk appetite and risk-adjusted performance.
However, similar to many organisations, the components of our risk management programme have tended to be built around existing process, people and systems. Therefore to continue our development and enhance our capabilities further, we have taken a further step. We have initiated an enterprise risk management programme to put all these issues into one overall framework at the very heart of the business. We see this as natural evolution as Catlin continues to grow and expand its operations.
Senior people from the business - actuarial and other technical experts, risk managers and employees from our finance, investments and operations functions - have been assembled to create a team dedicated to ERM. As chief executive officer I have taken personal ownership of the programme, and the team leader reports directly to me.
I see ERM as a central issue in how a business is run on a day-to-day basis. In some areas ERM may require a cultural shift in the way a business thinks and acts. Therefore, it's vital that such an initiative is led from the very top.
The vision at Catlin is to establish a holistic embedded group-wide risk and capital management framework that enables informed risk-based strategic and operational decisions to balance the risk/reward relationship. It will be based on transparent communication of risk management and risk appetite utilising an economic capital approach.
Let me be clear that we are not throwing away the risk management framework that we have built over the years. Instead, we want to ensure that all risk-related issues are brought together under a single framework so that decisions are made on a consistent basis throughout the Group, regardless of where they are made, by whom they are made or to what risk category they belong.
We also want to ensure that decisions are aligned with the Group's risk appetite and capital strategy.
Solvency II is concerned with many of these issues, and I firmly believe that it will be a major benefit for the insurance and reinsurance industry worldwide. However, companies that treat Solvency II as simply a compliance exercise will, in my view, miss out on the significant rewards that are achievable if it is implemented correctly.
Solvency II will provide a better understanding of the risk profile of the company, which is in the interests of regulators, policyholders, management and shareholders. If we can get Solvency II right, there will be a better regulatory base with more consistency worldwide. More importantly, there should be further improvements in how we trade, and improved capital efficiency should lead to enhanced profits for our shareholders over time.
ERM/Solvency II is a central issue for Catlin. If the rest of the industry takes the same view, perhaps we will see an end to the infamous underwriting cycle. Markets hopefully will be more informed and less prepared to chase premium if these actions do not contribute sufficiently to risk-adjusted profits.
From a reinsurance perspective we should see more opportunities emerge. Catlin has always followed a strategy of building a diverse portfolio of risk, and we constantly seek out uncorrelated risk. There is likely to be a capital strain for smaller, less diverse companies, and this could lead to either consolidation or opportunities in the reinsurance market.
Communication is central to getting an ERM programme right. This communication is vital at all levels, from informed discussions with the board of directors to everyday communication with all employees, so that individual risk decisions are consistent with the Group's overall risk appetite and strategy.
As it is currently proposed, Solvency II will lead to further disclosure. It is essential that companies manage this disclosure appropriately to ensure that external markets understand their risk appetite and strategy and can place them in context with those of other companies in the marketplace. Whilst increased disclosure presents opportunity, there is also a real danger that some highly complex issues could be boiled down into one or two numeric indicators that will be used as key comparators across companies without necessarily taking into account the overall management of an insurer or the prudent way in which its models have been built and implemented.
We see this already at Catlin where we publish two estimates of some of our catastrophe exposures; one based on the accepted application of the data models and a more prudent basis used in pricing and by management to inform and measure risk appetite and capital management. These more prudent assessments make allowances for the significant uncertainties present in catastrophe models.
Inevitably, the larger number derived from the more prudent approach is the most often used to quantify our catastrophe exposure, without having regard to whether it is the most appropriate by which to compare the group with others in the same market. To draw any conclusions across companies, you must take into account how scenarios have been developed and modelled. This will be even more important in the future when scenarios from complex economic capital models are potentially disclosed.
The rating agencies have known this for many years and continue to develop methods for consistent comparison. However, it takes a high level of technical expertise and market knowledge to interpret and compare extreme scenarios and economic capital figures. It is incumbent on companies to disclose information in a manner that all observers can understand to allow them to draw comparisons with whom they consider to be your peers. This is potentially one of the biggest challenges we face.
As much as I see Solvency II and ERM as beneficial to both Catlin and the industry as a whole, I still have some concerns. The expense and cost of regulation is significant. It's clear from recent events that regulation needs to be enhanced, particularly taking into account increasing global connectivity, but what is also needed is increased cooperation and consistency of approach amongst regulators. I am sure I am not alone in my frustration regarding the multitude of different reporting and solvency bases worldwide. Solvency and accounting bases must converge, whether the are US GAAP, IFRS, Solvency II, Risk-Based Capital in the US or the Solvency Capital Requirement in Bermuda, where our group is based.
If we continue to file and report on different bases, the costs increase purely for the sake of translating one set of figures from one basis into another, without adding value to either policyholders or shareholders. This also adds to confusion in external markets as inappropriate comparisons are made between companies reporting on different bases.
Group support is currently not recognised within Solvency II although I understand it will be revisited at some future date. I trust this will become a reality in the near term as capital efficiency is uppermost in any group structure; this could be potentially one of the key benefits under Solvency II. Without allowing for group support, there is an increased risk of misleading external communication by disguising the true benefits of diversification.
Although each regime needs to form its own view on how relevant issues should be addressed, consistency of approach and international co-operation is necessary if the overall aim is to have better understanding of risks in a global marketplace. Consistency and co-operation will also reduce regulatory costs, and that's clearly in everyone's best interests.
I do share the disappointment of the Bermuda Monetary Authority following recent announcements that its application for 'Reinsurance Equivalence' has been delayed due to resource constraints in Europe. This may have little consequence in the near term, but Europe cannot allow resource constraints to prevent or delay the assessment of Solvency II equivalence for non-European regimes. Bermuda is one of the most important reinsurance markets for Europe, and it must be included in the first wave of equivalence review. Delaying the assessment of Bermuda could be extremely costly for European entities looking for increased reinsurance capacity.
These are global issues and as multi-national businesses we need to know there is a fair, consistent and timely approach to assessing and granting equivalence.
It will be interesting to see how equivalence will be judged. It would be inconsistent with the principles of Solvency II to base equivalence on strict application of the rules rather than consider the real equivalence of substance. In both Bermuda and the UK, we have very open communications with our regulators who demonstrate good knowledge of our business and risk management processes whilst remaining practical and proportionate in their role as regulators of our relevant entities.
I remain optimistic that equivalence will be considered in the right manner rather than become a purely political issue.
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