Ferma urges proportionality for captives in Solvency II changes to tackle sustainability

Ferma has told the European Insurance and Occupational Pensions Authority (EIOPA) it is concerned about potential moves to introduce sustainability rules for captives under Solvency II, and urged the authorities to give such vehicles the benefit of proportionality and potential exemption from future changes to the regulation. Responding to EIOPA’s consultation on integrating sustainability within Solvency II, Ferma raised concerns about the possible introduction of specific stress scenarios on sustainability for small and less-complex insurers, such as captives. It is particularly worried about the implications for Own Risk and Solvency Assessments (ORSAs) under Solvency II, which the federation said should not be “prescriptive with standard scenarios to test”. Ferma made its comments on Friday as part of an EIOPA consultation on its draft opinion on sustainability under Solvency II. The draft opinion forms part of EIOPA's strategic activities on sustainable finance and follows a call for opinion from the European Commission. The EC has asked EIOPA to deliver its opinion by September 30 of this year, ahead of its wider Solvency II review in 2020. Ferma told CRE it then expects the EC to take EIOPA’s opinion into account when it produces its final report on Solvency II by the end of that year. Noises coming out of EIOPA suggest Ferma's views on sustainability and wider push for increased proportionality for captives under Solvency II will be taken into account. EIOPA's draft opinion considers integrating sustainability risks, in particular those related to climate change, in the underwriting and investment practices of (re)insurers, with implications for standard formula and internal model users. Captives would potentially have to adhere to any new rules. In its general comments, Ferma said it supports EIOPA’s initiative to ensure that insurance undertakings operating under Solvency II take into account sustainability within their solvency calculation models. The federation shares EIOPA’s view that sustainability should be considered as part of an insurer’s risk management framework and business planning when deciding on investment and client portfolio mix. But Ferma believes any new measure should apply the principle of proportionality to captives in order to ensure that any Solvency II requirements are “practically applied according to the nature, size and complexity of the regulated company”. It added that new regulatory actions and requirements should be “commensurate to their final objective”. “Therefore, Ferma calls on EIOPA to consider the captive industry as a special regulated category that should be given the benefit of proportionality and non-complex solvency modelling,” said the federation in its response to the consultation. Ferma said captives are first and foremost a risk management tool for their parent and group entities, which benefit from sustainability risk management from two main stakeholders. Firstly, Ferma points out that most captive sustainability risks are addressed by their parent or sister companies. “The sustainability exposure to physical and transition risks from climate change of the group they belong to is already included in the global risk management framework, the captive risk tolerance limits and pricing, and its investment policies of their parent company,” it told EIOPA. Secondly, Ferma notes that when captives (re)insure or (retro)cede risks from, or to, the (re)insurance market, the third-party risk carriers they deal with already take into account sustainability in their pricing, underwriting and investment strategy. With this is mind, Ferma said EIOPA’s proposals for a forward-looking approach to sustainability risks and the incorporation of a standardised set of quantitative scenarios in ORSAs for small and les complex insurers like captives, seems “overly prescriptive and disproportionate”. “The very nature of the ORSA is to be tailored to the specific situation of the insurer. It is highly likely that standardised scenarios will struggle to match the diversity of insurance business models,” Ferma said. Ferma added that captives are almost exclusively involved in covering first-party non-life industrial or commercial risks. Coverage of third-party risks is generally not a major part of a captive business and therefore sustainability requirements should be appropriately adjusted to ensure proportionality, it added. “To enforce the proportionality principle, specific provisions should be applied for the underwriting policy, including the possibility for an exemption [of captives] from new sustainability rules,” added Ferma. When it comes to factoring in the sustainability of assets within Solvency II, Ferma believes “it is crucial” to keep in mind that captives are not institutional investors. Therefore, they do not bear the same level of stranded assets risk because of transition risks, it continued. “There would consequently be no value from both a regulatory or operational perspective to consider new valuation techniques based on sustainability applicable to captives,” said the federation. It added that the current Solvency II framework can “easily and efficiently” address most sustainability risks through existing valuation methodologies. For instance, credit rating of unsustainable investments is likely to be lower and adequately reflected in the valuation of Solvency II assets, said Ferma. EIOPA’s attitude towards captives and proportionality seems to have evolved positively in recent times and gives hope that it will listen to Ferma’s views on sustainability and wider treatment of captives in its 2020 Solvency II review. In his latest keynote speech at the regulator’s conference in November, EIOPA’s chairman Gabriel Bernardino said “proportionality will be a key word in the 2020 evaluation”. He added that there is a concrete case to increase proportionality and reduce the burden for certain types of captives. More recently, captives were listed as priority in EIOPA’s 2019 supervisory convergence plan. The regulator said it aims to “ensure convergent and proportionate supervisory practices towards captive undertakings, while acknowledging different types of captives and consequently different types of risks”. EIOPA’s head of supervisory processes department, Ana Teresa Moutinho, told a Ferma webinar in June that its 2020 Solvency II review will look to improve proportionality for captives and could, for the first time, see some companies excluded entirely from certain aspects of the regime under the principle. The regulator also paid great attention to captives in its first set of documents on the consultation for supervisory reporting and public disclosure, released on 12 July, which will form part of its 2020 Solvency II review. Ferma explained that a dedicated captive section in the first document and concrete proposals to reduce the amount of reporting and disclosure are now up for discussion. Ferma will deliver its comments on this consultation by 18 October, with the support of its expert captive group led by Laurent Nihoul, Ferma board member and general manager of corporate risk and insurance at ArcelorMittal.

Ferma urges proportionality for captives in Solvency II changes to tackle sustainability

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