I was reading this IFoA working party paper today - https://www.actuaries.org.uk/system/...per-giro40.pdf In section 4.3 the authors explain the principle of correspondence for legally obliged contracts along with 2 examples 4.3.1 and 4.3.2 where they discuss how the reinsurance contracts are dealt on a LOD and RAD basis. I understood the part that the reinsurance cost and recoveries pertaining to the legally obliged "existing" reinsurance contracts must be included. However, I do see they are suggesting a proportion relating to the cover on the reinsurance contracts that strictly doesn't yet fall within the contract boundary. This part is not very clear to me. How do they determine what proportion of unincepted contracts cover that has not yet strictly exist within the contract boundary to be included for the calculation of solvency II Technical Provisions? I am confused with this principle. Can somebody clarify? Thanks
Hi Vidhya, An excellent paper to read, and a topic that has been examined in the past! I assume you are referring to Method 1 of Example 4.3.2. Here the RAD is not incepted at 31 December but is legally bound. However the inwards business to which it relates does not yet exist. In this scenario, they are recommending that the inwards business is excluded from the S2 calculation, and hence the corresponding reinsurance recoveries should be excluded also. However, this implies a mismatch, since some of the reinsurance cashflows are included (ie premiums) and some are not (ie claims). So they recommend a further adjustment to the reinsurance premiums to ensure correspondence. It's an interesting discussion isn't it, and perhaps the moral of the story is in recognising that several interpretations are possible. The paper even goes so far is to discuss whether the rationale is strong. At the end of the day, if you are applying a sensible, consistent approach and can justify it to the regulator (or the examiners!), then you'll probably be ok.
