The Financial Services Authority (FSA) has published its Financial Risk Outlook and Business Plan for the coming year.
The Financial Risk Outlook examines the risks inherent in the economic climate and alerts firms to the main risks facing their business over the coming year. The Risk Outlook also allows firms to see what the FSA believes are its regulatory priorities. As might be expected, this year’s Risk Outlook looks very different to that of previous years.
- Current market conditions have put pressure on life insurers’ earnings and excess capital, increasing the operational risks facing their business. The FSA states that senior management need to have a clear appreciation of the risks facing their business and take appropriate action to mitigate those risks. The Risk Report emphasises the need for robust stress and scenario testing as a risk evaluation tool. Firms will need to develop their risk management to ensure that it is effective and fully integrated with their capital management. This will be particularly relevant to all firms planning to use internal models under Solvency II.
- Current conditions must not impact firms’ continuing obligations to treat their customers fairly.
- In the light of lower levels of new business, lower retention of existing business and recent changes to the pensions and tax regime, insurers should reassess their business strategies.
- Firms should ensure that they set aside sufficient reserves and capital to reflect the extent of uncertainty surrounding life expectancy. This is particularly true of those firms writing annuity business.
- Firms holding corporate bonds should make a prudent assessment of the extent to which bond spreads reflect liquidity premiums, as opposed to the probability of default in valuing their long term liabilities.
- Insurers should ensure that they maintain effective controls against the increased risk of financial crime.
- The FSA’s message to general insurers is to ensure that they have effective risk management in place in terms of both underwriting and reserving. Business Plans should be reviewed in the light of recent claims experience. Further, insurers need to monitor their exposure to claims which might arise as a result of recent market events using rigorous stress and scenario testing.
- As with life insurers, general firms need to ensure that their risk and capital management are fully integrated. This will be particularly important for firms intending to use internal models under Solvency II.
- The Financial Risk Outlook specifically mentions that there may be higher claims on protection products during the economic downturn. Firms will need to ensure that they are aware of the FSA’s views on unfair contract terms and that terms are interpreted fairly (in line with firms’ obligations under Principle 6).
The FSA Business Plan 2009/10
The FSA Business Plan sets out the work programme for 2009/10 and explains how the regulator plans to mitigate the risks set out in the Financial Risk Outlook. The topics covered include how the FSA can improve the regulatory framework and what particular projects will be undertaken during the coming year. Of interest to insurers will be the review of firms' protection of client assets (planned for Q2 2009), a discussion paper on Solvency II (planned for Q3), and a review of the with-profits regime (planned for Q4).