Key Updates from the 2023 NAIC Fall National Meeting

The 2023 National Association of Insurance Commissioners (NAIC) Fall National Meeting recently took place in Orlando, Florida from November 30^th to December 4^th. Investments and investment risk were a key topic of discussion throughout the National Meeting. We saw some progress on certain initiatives impacting insurer portfolios, although the future is still unclear in many respects, and the broader “Framework for Regulation of Insurer Investments – A Holistic Review” released by the Financial Condition (E) Committee remains an overarching consideration. Below are some of our key updates and takeaways.

Valuation of Securities Task Force (VOSTF) exposes updated proposal for Securities Valuation Office (SVO) discretion over NAIC designations in filing exempt process; Comment period through January 26, 2024

Earlier in 2023, the SVO proposed an update to the filing exempt process that would allow the SVO discretion to modify NAIC designations where it believed the designation did not align with the risk. This sparked broad criticism from some interested parties from numerous perspectives, along with debate about the purpose of NAIC designations, the role of the SVO, reliance on credit rating providers, and other fundamental questions. At the Fall National Meeting, they exposed an updated proposal, which seeks to address several of the original concerns around governance, oversight, and transparency. The proposed 15-step process kicks off if SVO staff identify a security that they estimate should have a 3+ notch difference from the NAIC designation and includes a review from VOSTF, a mechanism for an insurer to request independent assessment, and anonymized summaries of each action taken. There is a comment period open through January 26, 2024.

The scope of this discretion would include all filing exempt securities, public and private, so it is quite broad, and would create some fundamental uncertainty when making investment decisions. However, we believe the SVO would focus its attention primarily on privately rated securities with weak rationale reports given broader regulatory concern around private assets and limited SVO resources.

VOSTF delays deactivation of filing exempt for Private-Letter Rating (PLR) securities where rationale report not filed

Beginning in 2022, VOSTF has required insurers reporting privately rated securities to file the rationale report to the SVO. At the 2023 Fall National Meeting, the SVO stated they would delay deactivating privately rated securities without rationale reports from the filing-exempt process until 2024. They noted both a significant increase in the number of privately rated securities being filed as well as a large number of securities without rationale reports. They are delaying the deactivation of those securities without rationale reports to rule out the possibility of operational or system issues with the rationale report submission process.

Oral comments presented for “Framework for Regulation of Insurer Investment – A Holistic Review”

At the 2023 Summer National Meeting, the Financial Condition (E) Committee exposed the “Framework for Insurer Regulation – A Holistic Review,” which seeks to provide a cohesive framework and principles through which investment regulation can be progressed. This received significant attention and comments, and during the Fall National Meeting, the E Committee allowed those who had submitted written comments to provide 2-minute oral commentary during their session. This proposed framework does not pause any existing initiatives and doesn’t include any concrete action items at this stage, but we expect it to influence the direction of investment regulation going forward.

Risk-Based Capital Investment Risk and Evaluation Working Group (RBCIRE WG) agrees to American Academy of Actuaries (Academy) Principles for Structures Securities RBC

The RBCIRE WG approved six principles proposed by the American Academy of Actuaries that will guide the Academy’s work to develop RBC factors for structured securities. There was some discussion on wording that may result in minor changes, but the principles will not need to be re-approved. With these principles in place, the Academy will begin developing proposed RBC frameworks for different classes of structured securities for RBCIRE consideration and broader public comment. Below are the principles:

1. The RBC formula is a blunt filtering tool. The purpose of RBC is to help regulators identify potentially weakly-capitalized insurers, therefore changes that have a small impact on RBC ratios may not justify a change to the RBC formula.
2. Emerging risks require regulatory scrutiny. Emerging investment risks create concerns for regulators, and existing regulatory tools can be considered alongside RBC for addressing these newer risks – but RBC need to be considered when there are material solvency issues.
3. RBC is based on statutory accounting. C-1 requirements reflect the impact of risk on statutory surplus. Changes in accounting treatment will affect RBC.
4. C-1 aligns with risk. C-1 requirements for a given tranche should align with that tranche’s risk, to the extent practical.
5. C-1 requirements reflect likely future trading activity. C-1 requirements on Asset-Backed Securities (ABS) should treat the collateral as a dynamic pool of assets, incorporating future trading activities that are reasonable an vary appropriately by economic scenario.
6. Appropriate risk measures. Each C-1 factor is based on the asset class’s risk profile. However, the risk profile for ABS differs from the risk profile for bonds. Therefore, C-1 requirements for ABS should be calibrated to different risk measures where appropriate.

There is no specific timeline for the Academy’s work on structured security RBC, and we expect this to continue evolving throughout the next few years. It is also worth noting that residential and commercial mortgage-backed securities are not out of scope, and the Academy/RBCIRE could propose updates to the current RBC modeling framework for those securities through this initiative.

Structured Securities Group (SSG) of the SVO continues work on NAIC designation methodology for Commercial Loan Obligations (CLOs)

While not discussed in depth at the Fall National Meeting, the Structured Securities Group (SSG) has exposed proposed scenarios for determining NAIC designations of CLO tranches and is currently working to assign probabilities to the scenarios and determine the designation-mapping methodology. Their methodology, along with key projections of cash flows and modeling results for select securities, has been posted publicly, and they are seeking comments from interested parties. The SSG had originally intended for this modeling to be in place by January 1, 2024, but that is now likely pushed out to mid-2024 and possibly later depending on the approval process.

Residual tranche measurement methodology exposed for comment through January 22, 2024

SAPWG introduced a proposal for residual tranches to be reported using either “effective yield method with cap” or “cost recovery” methods, after an initial proposal and comments from interested parties. Effective yield with a cap allows for realization of income at the same time as cash income is received, capped by an effective yield estimated each reporting period, with any excess income beyond the effective yield writing down the book value of the asset. Cost recovery uses all income to first write down the book value of the residual until it hits 0, after which any further income is reported as interest income. This delays income realization and is more conservative but is operationally simpler, so it is included as a practical expedient.

SAPWG adopts clarification of treatment of certain trades for IMR/AVR

SAPWG adopted a proposal that clarifies two types of trades should have realized gains/losses reported through the asset valuation reserve (AVR) rather than the interest maintenance reserve (IMR) where they would currently be reported, since loss is driven by credit concerns rather than interest rate movements:

• Mortgage loans with a valuation allowance – previously the determining factor was being 90 days past due, which meant a loan with an allowance for credit concerns but was still current would have losses reported through IMR.
• Debt securities where an acute credit event has happened – previously the guidance required a rating change of 2 or more notches to reflect losses in AVR, but in certain situations (i.e., regional banking crisis) market values reflect credit events before CRPs do.

For more information on the 2023 NAIC Fall National Meeting or other regulatory updates, please reach out to your BlackRock Relationship Manager and schedule a discussion with our Insurance Solutions team.