New rule for calculation of Solvency Margin ratio
Financial Services Agency (FSA) has revised the standard for solvency margin ratio calculation stipulated in the Insurance Business Act that imposes stricter rules with an aim to respond to the changes in the financial markets and to improve financial conditions and risk management practices of the insurers in Japan. The revised standard became effective at the end of March 2012.
The new standard requires insurers to limit the assets used in the margin (numerator of the ratio), while broaden the measurement for solvency risk (denominator of the ratios).
The details of the primary revisions are as follows:
- Adopting a more rigorous approach to the inclusion of some items in the margin, which corresponds to the numerator of the calculation formula of the solvency margin ratio.
- Introduction of restrictions on the inclusion of the surplus portion of the insurance premium reserves, etc. in the margin.
- Introduction of restrictions on the inclusion of deferred tax assets related to carried-over deficits in the margin.
- Making the measurement of risks, which corresponds to the denominator of the calculation formula of the solvency margin ratio, more rigorous and precise
- Raising the confidence level of the co-efficient of each risk (from 90% to 95%)
- Renewing statistical data used as the basis of the co-efficient of each risk
- Calculating the catastrophe risk arising from earthquake disaster under fire insurance based on VaR 99.5% in each company's risk model (previously, this risk was calculated as the risk equivalent based on VaR 99.5% in a universal risk model adopted by all insurance companies)
- Calculating the investment diversification effect related to price change risk based on each company's portfolio (previously, the ratios of 30% and 20% were applied universally to life and non-life insurance companies, respectively)
- Including the risk reduction effect of hedging transactions in the risk charge calculation only when the hedging is effective
- Adopting a more rigorous risk co-efficient related to securitized and re-securitized financial instruments, creating credit spread risk related to CDS (credit default swap) transactions, and adopting a more rigorous risk co-efficient related to financial guarantee insurance
Other point of revisions is to require the insurer's appointed actuary to review and confirm the appropriateness of the solvency margin ratio calculation as a part of its responsibility.
Please refer to "FSA News Letter No.85 2010" page (http://www.fsa.go.jp/en/newsletter/2010/04.pdf) for further information on the new rule of calculation for solvency margin ratio.