How OSFI expects insurers to react to market volatility

Canada’s solvency regulator is acutely focused on the current macroeconomic environment and expects insurers to practice ‘capital conservation’ due to market volatility, a senior executive said at an industry event Thursday.

The Office of the Superintendent of Financial Institutions (OSFI) also wants P&C (and life) insurers to conduct an inflation and interest rate stress test, Darrell Leadbetter, senior director of insurance and pension with OSFI, said during KPMG’s 2022 Insurance Conference.

“We have a pretty particular focus right now on financial resilience,” Leadbetter said during a regulatory fireside chat. “We expect that insurers will take a very close look at the assumptions that are embedded within their [portfolios],” and conduct an inflation and interest rate stress test.

Moderator Amit Chalam, a partner and national service line leader for governance, risk and compliance services with KPMG in Canada, asked Leadbetter about the state of the insurance industry, current views on risks, what OSFI wants insurers to do, and what is on the regulator’s agenda.

Leadbetter pointed out historical inflation scenarios may no longer be entirely appropriate, “so we have to really look at those and make sure they we’re getting appropriate assumptions and stress tests to be able to get a handle on that financial resilience for each institution.”

In 2023, OSFI will also reintroduce the standardized stress test for P&C and life insurers as it relates to inflation and interest rates, and provide parameters for insurers, he reported.

The current macroeconomic environment is creating market volatility with rising interest rates at the same time there is industry digitization and a worldwide transition to the new IFRS 17 insurance accounting standard. This is in addition to “all the broader risks that have been around for a while,” Leadbetter said.

Acknowledging the message about capital conservation is “probably not going to be that popular,” he pointed to the uncertainty surrounding IFRS 17 implementation and rising interest rates and inflation. OSFI is also looking at the reinsurance market on the P&C side to see if there is a withdrawal of capacity and what that means for net retentions.

On the interest rate side, while rising rates are normally good for the industry (particularly life insurers), they’re not really helpful when they go up really fast, Leadbetter said. “Gradual increases are really good for [insurers]. We’re spending a lot of time make sure that we are ready to deal with the issues.”

With rising interest rates, some insurers might think they’re getting a dividend or a bump in their capital ratio, Leadbetter said. “We’re encouraging all insurers to be conservative and prudent and think through the risks of the environment; take a look at the capital position and where they need to be in the next number of quarters.

“We don’t really know how [IFRS 17] is going to play out, we don’t know how the metrics will be read,” Leadbetter added. “So, when you’re looking at internal targets and things like that, be very conservative in that until you get some history of IFRS 17, and get a better sense of where the positioning of the macroeconomic environment [is].”

There’s also reason to believe the macroeconomic environment “might have some persistency with supply chains and things like that,” Leadbetter said. “We’re not as well-positioned from a financial resilience [standpoint] as we were for prior crises. So, we’re very focused and concerned about that and the resilience of our institutions.”

Feature image by iStock.com/DNY59