The UK’s Prudential Regulation Authority (PRA) has published a Consultation Paper (CP) “CP32/16 Dealing with a market turning event in the general insurance sector“. The CP attaches a draft Supervisory Statement (SS), which sets out the PRA’s expectations “in relation to significant general insurance loss events which might affect firms’ solvency and future business plans“. Although the CP will be relevant to all PRA-regulated Solvency II in-scope general insurers, the Society of Lloyd’s, and Lloyd’s managing agents, the PRA is at pains to point out that the SS will be especially relevant to “those operating in the global specialty insurance and reinsurance market“, when it comes to planning for and responding to significant loss events.

For these purposes, a market turning event (MTE) is one that has the potential to rapidly turn the market from a soft cycle to a hard cycle, which stresses some firms to the point where they breach or expect to breach their Solvency Capital Requirement (SCR) or Minimum Capital Requirement (MCR) within 3 months. Past examples have included Hurricane Andrew in the early 1990s, APH Losses in the mid-1990s, and 9/11.

The consultation closes on 21 December 2016.

For the purposes of the SS, the PRA assumes that an extreme general insurance loss event has occurred, that it’s having a material adverse effect on several (re)insurers, and that (for example):

  • the event is likely to generate significant claims for a number of (re)insurers;
  • the full number and value of these claims may not be known for some time;
  • it may also be some time before firms know whether, or to what extent, their regulatory capital position has been affected;
  • either way, the availability, price and/or terms of some types of cover have changed, or will change;
  • some might want to write more business to take advantage of the harder market; and/or
  • some might need to raise more capital to meet their regulatory capital requirements or to take advantage of hard market opportunities.

Having made these assumptions, the PRA “expects firms to consider in advance the possible impact of an MTE on their business, including what steps might reasonably be taken in advance to enable them to respond appropriately and meet their regulatory obligations“. This consideration should be “proportionate to the nature, scale and complexity of the firm’s business, and the impact that an MTE is likely to have on its operations“. If an MTE could have a significant impact on the firm’s financial position or future business plans, it should also consider its approach “with regard to risk management, capital management and financing, governance, and reporting and disclosure“. The SS includes (a) the PRA’s more detailed thoughts / expectations about each of these things; and (b) a draft 3 page information request, “for possible use” by the PRA after an MTE has occurred.

In some respects, this is Solvency II “gold-plating“, but the PRA has avoided the legal risks that might have been associated with that by proposing to make a “Supervisory Statement” that sets out its “expectations” (which firms aren’t necessarily obliged to comply with), instead of proposing to make rules that could be breached, and followed by regulatory sanctions.

At least at first blush, the PRA’s proposals are also broadly consistent with best commercial practice, which might be enough to make them relatively un-contentious, even as they general more work for risk and compliance professionals.

The CP is accompanied by a brief “Managing risk in a soft marketspeech, that was delivered by David Rule, the PRA’s new Executive Director for Insurance Supervision, at the General Insurance Research Organisation conference in Dublin. The speech is mercifully short, clear and concise – and well worth a read not only from an MTE perspective, but for an insight into the PRAs latest thinking on the causes and consequences of the current soft market; and the risks associated with weak underwriting controls and over-generous reserve releases.