S&P’s revised proposal on insurer risk-based capital adequacy

On May 9, 2023, S&P published a revised Request for Comment (RFC) which supersedes its initial RFC published in December 2021. The revised RFC incorporates changes to the 2021 RFC in response to external feedback received. S&P is requesting that interested market participants submit their written comments on the proposed criteria by July 14, 2023. S&P’s updated proposal simplifies its framework and will supersede ten previously released criteria articles. S&P estimates that the proposed criteria could lead to credit rating actions on about 10% of ratings in the insurance sector with the majority of rating changes estimated to be by one notch, with more upgrades than downgrades.

BlackRock’s Insurance Solutions team has reviewed S&P’s proposal and summarized some of the key takeaways below.

• Overall, the proposed capital charges on most risks have increased, mostly because the confidence levels that S&P Global uses to calibrate risk charges have increased to 99.5% (moderate stress), 99.8% (substantial stress), 99.95% (severe stress), and 99.99% (extreme stress) from 97.2%, 99.4%, 99.7%, and 99.9%, respectively.
• However, greater diversification allowances under the new model have been provided that in many cases will allow companies to hold lower capital levels, in aggregate.
• Credit risk charges for bonds and loans will add a new dimension. In addition to being based on rating and tenor, the proposed methodology adds an additional level of granularity where bonds will have further categorization into four asset classes, from the riskiest asset type of structured assets to the least risky of government and secured bonds.
• The new five-step decision tree to determine the rating input of bonds and loans first introduced in the December 2021 proposal remains. However, the updated proposal significantly revises the treatment for assets not rated by S&P, allowing for the use of other Credit Rating Agencies (CRAs) ratings using CRA mapping tables and without applying a downward notching adjustment for non-S&P ratings.
• Updated correlation factors within both life technical risks and market risks provide for greater diversification benefits, allowing insurers to reap back some of the impacts seen from increased individual capital charges. In addition, a new layer of Level 3 diversification between risk categories will provide even larger benefits for insurers with a more diversified portfolio.
• The updated methodology for determining the Net Change in Market Value (NCMV), and therefore the interest rate risk capital requirements, includes a three-step decision tree. The S&P applies either company-specific assumptions or standard assumptions, in all cases using their defined yield stresses which assume permanent parallel shifts in yields that vary by country.