A growing trend is emerging within the insurance sector, where insurers and other users of insurance products are looking to structured finance solutions both from an investment and risk management perspective.
What are the driving forces behind this development? Is regulation enhancing or impeding the trend? What role do insurers and other participants play in this new market?
On 10 November 2016, Hogan Lovells hosted a seminar to discuss these issues. Our panel of experts included Gavin Palmer from KPMG, Michael Eakins from Goldman Sachs, and James Doyle, Tauhid Ijaz and Steven McEwan from Hogan Lovells, who put forward their thoughts and shared their own recent experiences. The issues discussed included the following:
- What have you seen as the main drivers of insurers changing their approach to asset strategy following the introduction of Solvency ?
- How can derivatives be used by insurers for the reduction of risks and efficient Solvency II balance sheet management ?
- What are the main things that insurers have to be wary of when investing in a securitisation ?
- What are the main reasons why insurers are increasingly looking to structured finance rather than traditional bond and equity markets ?
- Given current uncertainty regarding Solvency II, Brexit, interest rates and the value of sterling, is now the right time to enter into significant transactions ?
- To what extent are general insurers involved in this trend ? Are these developments limited to the UK and the US ?
- Over time, are we seeing the erosion of the traditional distinctions between insurers and banks ?
- Is there a way to hedge an insurer’s risk margin and its rates position that won’t lock-in if the PRA changes its approach to calculation of the risk margin ?
- What would each panellist single out as the main area of difficulty that insurers face in relation to their investment activity under Solvency II?
You can watch a video of the seminar on our website, and we have prepared a written summary that is available for download. Please use the links below the access them:
Watch the video
Download the summary
On 4 January 2017 the China Insurance Regulatory Commission (“CIRC“) published on its website the final version of the Measures on the Compliance Management of Insurance Companies (the “Compliance Measures“), which will become effective on 1 July 2017.
The Compliance Measures apply to insurance companies and insurance groups established in China, but also act as a reference for branches of foreign insurance companies, insurance asset management companies and other insurance organizations approved by and registered with CIRC.
Based on the notes at the beginning of the Compliance Measures, all Chinese insurance companies and insurance groups are required to establish compliance departments and functions, and make arrangements to avoid possible conflicts of interest in accordance with the requirements specified in the Compliance Measures before their official effective date. Continue Reading
On 15 February 2017, the Centers for Medicare & Medicaid Services (CMS) took a step toward addressing concerns about the stability of the individual and small group health insurance markets by proposing a modicum of regulatory relief for insurers. Most of the proposed changes are relatively modest and, for the most part, would not be effective until the 2018 plan year. Especially given the ongoing uncertainty regarding the future of the health insurance exchanges under the new administration and Congress, it is unclear whether the proposals would be enough to prevent more insurers from exiting the exchanges, as Humana recently announced it would, or to stave off significant rate increases for 2018. The Proposed Rule, “Patient Protection and Affordable Care Act; Market Stabilization” (CMS-9929-P), will be published in the Federal Register on 17 February 2017. Commenters should note that the proposed rule has an abbreviated comment period and comments are due by 7 March 2017.
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On January 13, 2017, representatives of the European Union and the United States of America issued a joint statement announcing that they had successfully concluded negotiation of an agreement (the “Agreement” or “Covered Agreement”) that both parties contend “will ensure ongoing robust insurance consumer protection and provide enhanced regulatory certainty for insurers and reinsurers operating in both the U.S. and the EU.” According to the joint statement, the Agreement constitutes a “covered agreement” within the meaning of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank”) in the U.S. and an “agreement” under Article 218 of the Treaty on the Functioning of the European Union in the EU.
The Agreement addresses three areas of prudential insurance regulation important to internationally active (re)insurers: (1) reinsurance; (2) group supervision; and (3) the exchange of information between insurance supervisors. As discussed more fully below, key aspects of the Agreement are meant to provide EU-based (re)insurers with relief from U.S. collateral requirements, to provide U.S.-based (re)insurers with relief from EU local presence requirements, and to free U.S. insurance groups operating in the EU from EU worldwide group capital, solvency, reporting, and governance requirements under the EU “Solvency II” Directive and applicable implementing legislation (“Solvency II”). The group supervision and reinsurance provisions are conditioned upon one another. Therefore, without collateral relief for EU-based entities, there is no local presence or worldwide group supervision relief for U.S.-based entities, and vice-versa.
This article provides some background on the impetus behind the Agreement, summarizes its substantive terms, and discusses issues related to its implementation.
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The FCA have opened a consultation on proposals to amend the FCA Handbook to incorporate a new regulated activity of “insurance risk transformation”.
The consultation documentation can be found on the FCA’s site, here. Responses are due by 14 March 2017.
The FCA are proposing changes to parts of the Handbook to incorporate Insurance Linked Securities (“ILS”), additional rules for Insurance Linked Securities business and proposals for fees for the registration of protected cell companies.
In short, the proposals are to regulate ILS such that retail consumers are unable to purchase them – ILS would only be sold to Qualified Investors.
ILS are financial instruments, which are sold to investors, where the value of the security is linked to an insurable loss event. ILS are an alternative form of risk mitigation for insurance and reinsurance firms, offering a means for them to transfer risk to the capital markets through insurance SPVs.
The Government is keen to attract ILS business to the UK – hence the new regulated activity of insurance risk transformation proposed by HM Treasury in November 2016 and the new regulatory framework proposed by the FCA.
A new guidance note on reinsurance for Hong Kong insurers (“GN17“) came into effect on 1 January 2017.
GN17 contains a number of general requirements with regard to the management and monitoring of reinsurance arrangements. The most significant changes in regulation are new approval requirements for certain alternative risk transfer and financial reinsurance transactions. The approval requirements are an important regulatory development since the Hong Kong regulator will now analyse those potentially complex transactions.
Alternative risk transfer: Alternative risk transfer arrangements (“ART“) under which risk is transferred to the capital markets using a special purpose vehicle (“SPV“) must now be approved in advance by the regulator, except for those entered into by pure reinsurers. SPVs are expected to be “fully-funded” and bankruptcy remote, and the Insurance Authority will take into account factors such as the ownership structure of the SPV, ranking and priority of payments, stress testing of cashflows in the SPV structure, the use of derivatives, and investment strategies as part of its assessment.
ART transactions are well-established in developed markets such as the US and Europe (where Hogan Lovells has advised on many significant transactions), but have so far been less common in Asia.
Arrangements with Insignificant Risk Transfer: Except for pure reinsurers, insurers must also seek approval from the regulator before entering into new arrangements with insignificant risk transfer (“IRT“) or varying such arrangements to a material extent. Insurers will be required to disclose detailed information in relation to such IRT to the regulator for assessment.
Certain types of financial reinsurance arrangements will be required to be assessed under the new IRT regime. This will be relevant to a number of Hong Kong insurers/reinsurers who enter into such arrangements.
New corporate governance standards for insurers authorised in Hong Kong came into effect on 1 January 2017. Hong Kong incorporated insurers and overseas insurers with a certain threshold of Hong Kong business must comply with the new guidance note 10 (“GN10“) issued by the Hong Kong regulator.
GN10 provides that the chairman of the insurer’s Board cannot also be the chief executive or appointed actuary of the business. Insurers are also required to produce business continuity plans and implement cybersecurity procedures.
In addition, from 1 January 2018 onwards, at least one third of the Board members of insurers (other than certain small insurers) must be independent non-executive directors, and there must also be a Board level risk committee. From that date, insurers are also required to have an appropriate remuneration policy for directors, senior management and material risk-taking employees which does not encourage inappropriate risk-taking.
For further details, please click here.
On Jan. 5, 2017, the Department of Treasury Federal Insurance Office held its first committee meeting of the new year. Several topics were addressed, including the use of blockchain/distributed ledger technology (“DLT”) in the insurance industry. Matt Higginson of McKinsey & Company presented this topic to the committee. While DLT’s impact on the financial services industry is still being examined, the industry sees the potential and is investing in research and experimentation to better understand that impact. In the insurance industry, there are three likely growth areas for DLT use: (i) underwriting, (ii) claims management, and (iii) back office efficiency. Continue Reading
The New York Department of Financial Services (NYDFS) just issued major revisions to the cybersecurity regulations for financial institutions that were due to come into effect on January 1, 2017. To allow covered institutions more time to implement the rules, the effective date will now be March 1, 2017, with a series of staggered implementation dates beyond this. There are several notable substantive changes in the revised rules.
Click here to learn more about the major changes to the proposed rules, timing and implementation details, and how to prepare for the new requirements as well as other related cybersecurity developments.
On 30 December 2016, the Companies Act 2006 (Distributions of Insurance Companies) Regulations 2016 (the “Regulations“) came into force. The Regulations apply to distributions made on or after that date by reference to accounts prepared for any period ending on or after 1 January 2016. A copy of the Regulations is available here.
The purpose of the Regulations is to define the mechanism by which long-term insurance companies are required to calculate amount of their distributable profits, following the implementation of certain changes arising from the Solvency II Directive. Continue Reading