Author: db

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Two for one

Not one but two articles on Matching Adjustment in mainstream media today.

The Times:

L&G ‘sitting on £10bn of bond losses’ Pressure grows on insurer to abandon dividend

Legal & General is sitting on estimated bond market losses of as much as £10 billion, according to a shareholder group which is urging the insurer to postpone its planned dividend. The UK Shareholders Association argues that the outlook for financial markets is much too uncertain to justify L&G making its £754 million payout promised for next month. Dean Buckner, its policy director and a former Prudential Regulation Authority official, said L&G would be sitting on huge paper losses because of the slide in many bond prices since the start of the year.

Slightly misquotes me. I actually said that mark to market losses could be high as £10bn, but without knowing the breakdown by rating and sector it would be difficult to say.

In the Financial Times:

Investors should beware the insurance magic money machine

Ford gives one of the best layperson explanations of the Matching adjustment that I have seen yet.  He supposes a company with £100 of risk free assets and thus £100 of liabilities swaps them for £100 of higher yielding risky assets.

The matching adjustment kicks in when it shifts some of that money into higher-yielding assets. In theory this should change things: higher yields carry more investment risk. So to continue protecting the annuitants, the insurer needs more loss-bearing capital than its present zilch.

But here’s where our convention really earns its corn. Using matching adjustment, our insurer can discount its liabilities at a higher rate, reflecting the extra return it hopes to make from those higher-yielding assets. This reduces its liabilities to, say, £90. So without anyone contributing a penny, or the company retaining any earnings, hey presto, its equity “buffer” has risen from £0 to the more substantial level of £10.

No less helpful is what happens when market turmoil strikes and spreads balloon. Then our insurer gets to discount its liabilities at even higher rates, creating more artificial capital and thus compensating for falling asset prices.

Then we are back to masks versus cushions again.

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Coronavirus to cost insurers more than $200bn

By Oliver Ralph, FT today.

Just over half of the $203bn estimated loss relates to claims, with insurers expecting to pay out for events cancellation, business interruption and trade credit cover. Another $96bn comes from investment losses, where turmoil in financial markets has hit the assets insurers hold to fund claims. “This is a loss of a magnitude that none of us have seen in our lifetime,” said John Neal, Lloyd’s chief executive.

But that is general insurance.

Continue reading “Coronavirus to cost insurers more than $200bn”

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If stress tests are on pause, then so too should be insurance company dividends

The Times, today.

Sir John Vickers, the architect of the financial regime put in place after the 2008 crisis, has expressed concern about the Bank of England’s decision to abandon stress tests for insurers and said that Legal & General’s imminent dividend of more than £750 million should be blocked. Sir John, former chairman of the Independent Banking Commission, said: “If stress tests are on pause, then so too should be insurance company dividends, notably L&G’s, until the future is clearer.”  The Bank’s decision on Thursday not to publish its 2019 stress test of insurers was a mistake, he said, and came at a time when companies’ balance sheets and their ability to withstand the shock of the pandemic should be under scrutiny.

https://www.thetimes.co.uk/article/abandoning-stress-tests-for-insurers-is-a-mistake-txt2kjx92

More to come.

[Edit] See also, my emphasis:

Sir John criticised an accounting rule that enabled insurers to flatter their capital positions. This is the so-called matching adjustment rule, which allows insurers to use a higher discount rate to value their liabilities when their assets yield more. “The fall in yields and widening of spreads will have eroded insurers’ capital levels but accounting methods partly obscure this,” he said. “The matching adjustment to capital may be more of a mask than a cushion.”
The PRA and L&G declined to comment.

 

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UK Shareholders’ Response to Consultation on Capital Requirements and Macroprudential Buffers

On the UK Shareholders website here.

UKSA has submitted a response to the Prudential Regulation Authority’s Consultation Paper CP2/20 on Capital Requirements and Macroprudential Buffers

In a critical submission, UKSA has drawn the Authority’s attention to the lack of clarity and intelligibility of the Consultation Paper and argued that the proposed reduction in Pillar 2A is not contingent on any increase in the countercyclical buffer, leading to the asymmetry of an actual lowering of minimum capital requirements offsetting a hypothetical increase to the buffer.

I have written a few CPs in the past, but for sheer impenetrability this one takes the biscuit.

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Just 2019 Solvency and Financial Condition Report

The Just Group SFCR is out today.  One thing leapt out.  Table S.22.01.22 on page 110 which quantifies the effect of transitionals and matching adjustment, shows a large increase in the effect of TMTP from £1.7bn in 2018 to £2.8 bn in 2019, that more than a £1bn increase. The figure is broadly consistent with the figure for JRL on p.120 and for Partnership Life on p.129 (although, unlike last year, they don’t add up precisely).

If correct, the coverage ratio would have fallen to 82%.

Yet the figure is not consistent with the figures on p.80, which show the effect of transitionals at only £1bn, leaving the capital coverage ratio broadly unchanged at 141%. I have no way of explaining this.

Note also the weird lack of sensitivity to a 100bp changes in credit spreads, given on p.10 as 1% of coverage ratio. The puzzle is resolved on p.62 where it states “Credit Spread Risk: “The 100bps increase in credit spread for corporate bonds (excludes gilts, EIBs, any other government/supranational) assumes that the Fundamental Spread and volatility adjustment remain unchanged”.

More bizarre insurance accounting, in other words. The fundamental spread represents the supposed default risk for the firm, which if unchanged would not impact p/l. The widening of the spread, for example in a crisis period like now, would therefore be attributable to a change in Matching Adjustment, and the fall in asset value be matched by a corresponding fall in obligations.

This is not false accounting at all!

 

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Excess mortality – official

Source: New York Times

There has been endless debate in the, er, Trumpier bits of social media suggesting that the whole virus thing is a hoax, that dying with corona virus is different from dying from it or because of it. The chart above, showing deaths in New York, suggests that people are in fact dying from it. Of course you can’t prove anything, as one acquaintance suggested, but then outside of mathematics and logic you can’t prove anything anyway.

Our British actuarial colleagues found much the same as the New Yorkers, in a report published by the IFoA of all places.  That settles it then.

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Hong Kong suggests no need for total lockdown

Source: John Hopkins University

From the FT:

Hong Kong effectively managed the first wave of coronavirus outbreak through border restrictions, quarantine, isolation and social distancing – without resorting to a total lockdown – according to a new study in The Lancet, the UK medical journal.

The research by the University of Hong Kong showed that border entry restrictions, testing, contract tracing and isolation and population behavioural changes were effective in reducing the transmission of Covid-19 in the territory in early February.

The report also suggested that there were much reduced influenza transmission in February, compared with times of school closures in the past. Therefore, the study concluded, other social distancing measures and avoidance behaviours had a substantial impact.

“By quickly implementing public health measures, Hong Kong has demonstrated that Covid-19 transmission can be effectively contained without resorting to the highly disruptive complete lockdown” adopted by mainland China, the US and western European countries, said Benjamin Cowling, a professor at HKU’s School of Public Health who led the research.