G32 Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure
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European insurers are allowed to make discretionary decisions in the calculation of Solvency II capital requirements. These choices include the design of risk models (ranging from a standard formula to a full internal model) and the use of long-term guarantees measures. This article examines the impact and the drivers of discretionary decisions with respect to capital requirements for market risks. In a first step of our analysis, we assess the risk profiles of 49 stock insurers using daily market data. In a second step, we exploit hand-collected Solvency II data for the years 2016 to 2020. We find that long-term guarantees measures substantially influence the reported solvency ratios. The measures are chosen particularly by less solvent insurers and firms with high interest rate and credit spread sensitivities. Internal models are used more frequently by large insurers and especially for risks for which the firms have already found adequate immunization strategies.
Life insurance convexity
(2021)
Life insurers massively sell savings contracts with surrender options which allow policyholders to withdraw a guaranteed amount before maturity. These options move toward the money when interest rates rise. Using data on German life insurers, we estimate that a 1 percentage point increase in interest rates raises surrender rates by 17 basis points. We quantify the resulting liquidity risk in a calibrated model of surrender decisions and insurance cash flows. Simulations predict that surrender options can force insurers to sell up to 3% of their assets, depressing asset prices by 90 basis points. The effect is amplified by the duration of insurers' investments, and its impact on the term structure of interest rates depends on life insurers' investment strategy.