Hi, I've got a couple of questions on the RM and SCR if anyone is able to help me out? 1) RM is the cost of holding the SCR (i.e. locking away capital earning a lower rate) and to compensate a third party taking over an insurer's best estimate liabilities for the risk experience ends up worse than best estimate in practice. So does the RM include the cost of holding itself, i.e. the cost of holding the capital backing the RM? 2) Are there restrictions on what assets can be used to cover the Risk Margin like for SCR and MCR? In practice, it’s my understanding that to avoid a circular reference, the SCR is calculated based on Assets – BEL. Therefore, the SCR would be no different if the RM is backed by equities or government bonds say. So if RM = cost of holding (SCR + RM) then surely if the RM is backed by equities this cost of holding would be lower than if backed by bonds. This would then mean the RM should be lower? Any help getting my head round this would be appreciated. Thanks, Max
No, Solvency II regulations require the risk margin to be calculated as a subset of the SCR (of non-market risks) only. Justification being that under Solvency II regulations the risk margin is not a capital requirement but is part of the market consistent valuation on the balance sheet. However, if a company was carrying out an embedded value calculation, they may decide to work out the cost of holding and raising capital against RM and SCR and any other internal capital requirement.
If a company calculates its SCR using an internal model and one of the risk modules is Basis Risk, should Basis Risk then be included in the non-hedgeable risk capital for the Risk Margin calculation ?
Hi If the basis risk is non-hedgeable, then yes it should in theory be included in the risk margin. Thanks Em
