OSFI.MCT

Question 1

MCT Ratio formula

Answer 1

MCT Ratio = CapAv/minCapReq
where minCapReq = CapReq/1.5

Question 2

Define ‘target capital required’

Answer 2

Capital level corresponding to CTE(99%) on the loss distribution over 1-yr time horizon

Question 3

what is the minimum supervisory target for OSFI’s MCT ratio

Answer 3

150%

Question 4

3 Reasons for 150%, OSFI’s minimum target

Answer 4

1. Provides cushion above minimum requirement
2. Facilitates OSFI’s early intervention
3. Provides additional capacity to absorb unexpected losses

Question 5

Identify the 4 qualitative considerations regarding MCT capital available.

Answer 5

1. AVAILABILITY: capital fully paid & available to absorb losses?
2. PERMANENCE: until when is capital element available?
3. ABSENCE of encumbrances: extent to which the capital element is free from mandatory payments
4. SUBORDINATION: is the capital element subordinated to the rights of policyholders & creditors if insurer becomes insolvent?

(APAS)

Question 6

Identify the 4 components of Capital Available.

Answer 6

1. Category A capital
2. Category B capital
3. Category C capital
4. Non-controlling interests

Question 7

What are the 7 components of category A capital?

Answer 7

1. Residual Interest
2. Common shares
3. Contributed Surplus
4. Other Capital
5. Retained Earnings
6. Nuclear Reserves
7. Accumulated Other Comprehensive Income (AOCI)

(Hint: RC-CORNA)

Question 8

Identify 3 regulatory deductions to capital available.

Answer 8

1. Unsecured & unregistered reinsurance exposures and SIRs
2. Earthquake premium reserve not used as part of financial resources
3. Accumulated impact of shadow accounting
4. Goodwill and other intangible assets
5. Deferred tax assets
6. Investment in own instruments

Question 9

How do you calculate the deduction for unregistered reinsurer recoverables from capital available?

Answer 9

• Calculate Total exposure = A+B+C
• Calculate Total Collateral = D+E+F+G+H+I
• if Exposure > Collateral, then
  Deduc(UnregRe) = Max(0 ; (A+B+C+D)-(E+F+G+H+I))
  D,E,F’G’H *are all collaterals

if Total RE Exposure < Collateral, then ded to RE margin

A: unexp. Cov prm on RE held == ARC+RE comm + prm payable to the assuming insurer, if PAA ;
B:Ceded incurred claims==assets for incurred.;
C: CF (out) within the funds withheld collateral, ass. C=0;
D:RE Receivable;
E: RE payable;
--collaterals:
F: Non-owned deposits RSA; G: Other Non-owned depot.; H: collaterals funds held,
I: Letter of cred *Always check LOC limit = 30%(A+B)

Question 10

How do you calculate the deduction for excess category B&C from capital available?

Answer 10

BC = 40% * (CapAv(Net of adj) - AOCI)
C = 7% * (CapAv(Net) - AOCI)
BC excess = (Cat B + Cat C) - BC
C excess = Cat C - C
Deduction = max(0, BC excess, C excess)

Question 11

How do you calculate Capital Required?

Answer 11

Sum (IMCO) - DC

Question 12

Define Insurance Risk

Answer 12

Risk of loss FROM the potential for claims.

Question 13

Identify the 2 uncertainties that Insurance Risk deals with.

Answer 13

1* uncertainty in the amount of payments
2* uncertainty in the timing of payments

Question 14

Define Market Risk

Answer 14

Risk of loss FROM changes in prices in various markets.

Question 15

Define Operational Risk

Answer 15

Risk of loss FROM inadequate OR failed internal processes, people, systems OR from external events.

Question 16

Define credit risk

Answer 16

Risk of loss FROM counter-party’s potential inability OR unwillingness to fully meet contractual obligations due to the insurer.

Question 17

Define interest rate risk

Answer 17

Represents the risk of economic loss resulting FROM market changes in interest rates and the impact ON interest rate sensitive assets & liabilities.

Arises due to the volatility & uncertainty of future interest rates.

Question 18

Identify the 4 sub-categories of Insurance Risk.

Answer 18

1. Liability for Incurred Claim (LIC)
2. unexpired coverage (includes catastrophes other than earthquake and nuclear)
3. Unregistered reinsurers
4. Catastrophes (earthquake, nuclear)

Question 19

How do you calculate the margin for LIC?

Answer 19

margin(LIC) = 1.1 x Σ (risk factor) x [ net LIC(issued) excl. RANF – AIC(re held) excl RANF]

Question 20

How do you calculate the capital required for unexpired coverage

Answer 20

CapReq(UnexpCov) = (risk factor margin)*max(0.3 * Net Prm Received, Net Unexpired Cov)

Net P Received : net of RE

net unexpired coverage = (unexp cov for Ins contracts issued) – (unexp cov for RE contracts held)

unexp cov Ins contracts = PV(CFs excluding prm, RE comm and Acq CF) if GMM or (LRC - LC + Unamortized Ins Acq CFs + Prm receivable) * ELR + Costs if PAA

ARC = PV(CFs) if GMM = (ARC Excl LC + Unamortized Reins Comm + Re payable + Future Reins P) * ELR - (Future Reins P - Reins Comm) if PAA

**net unexpired coverage= net expected losses + costs.

Question 21

Identify the 4 sub-categories of Market Risk.
(Mr IFER)

Answer 21

1. Interest rate risk
2. Foreign exchange risk
3. Equity risk
4. Real estate risk

Question 22

What is the purpose of Diversification Credit (DC) ?

Answer 22

Recognize diversification by reducing the capital required (diversified risks are not likely to suffer big losses all at the same time).

Question 23

Identify the condition for admitting recoverability of SIRs.

Answer 23

OSFI must be satisfied with the collectability of recoverables and may require collateral

Question 24

Operational risk includes ( ) but excludes ( ).

Answer 24

Includes legal risk
Excludes strategic and reputation risk

Question 25

What is the purpose of the cap on operational risk?

Answer 25

Serves to dampen the operational risk margin for companies that have `high-volume/low-complexity business`.

Question 26

What is the dollar duration?

Answer 26

Change in dollar value of an asset or liability for a given change in interest rates.

Question 27

Contrast effective duration and modified duration.

Answer 27

Modified duration is a duration measure in which it is assumed that interest rate changes do not change the expected cash flows. Effective duration is a duration measure in which recognition is given to the fact that interest rate changes may change the expected cash flows.

Question 28

Define foreign exchange risk

Answer 28

Intended to cover the risk of loss resulting from fluctuations in currency exchange rates and is applied to the entire business activity of the P&C insurer.

Question 29

Define equity risk

Answer 29

Risk of economic loss due to fluctuations in the value of common shares equity securities.

Question 30

Define real estate risk

Answer 30

Risk of economic loss due to changes in the value of a property or in the amount and timing of cash flows from a property.

Question 31

Identify the 3 sub-categories of counter-party risk.

Answer 31

1. Default risk for B/S items 2. Default risk for off B/S items 3. Default risk for collateral & guaranteed from unregistered reinsurers.

Question 32

Identify the 3 sub-categories of operational risk.

Answer 32

1. Sum(IMC) 2. Premium volume & growth 3. Intra-group pooling

Question 33

How do you calculate diversification credit (DC)?

Answer 33

A + I - (A^2 + I^2 + 2RAI)^0.5 A = Credit risk + Market risk I = Insurance risk

Question 34

How do you calculate the earthquake reserve/EQ margin?

Answer 34

ER = (EPR + ERC) * 1.25 ERC = ERX - FinRes

Question 35

How do you calculate ERX1 using the Model approach?

Answer 35

ERX1 = ( (East PML500)^1.5 + (West PML500)^1.5)^(1/1.5)

Question 36

How do you calculate ERX3 using the standard approach?

Answer 36

ERX3 = max(East PTIV - applicable deductible, West PTIV - applicable deductible)

Question 37

How do you calcule the operational risk?

Answer 37

Cap.Req(Oper.) = Min[30%*sum(IMC); sumprod(A) + Max(B)] ## Footnote sumprod(A) = sumprod( risk factors; IMC,DWP,AWP,CWP, (growth >20%) x (DWP + AWP) / (1 + growth))---- Max(B) = Max(risk factor * AWP_IG; risk factor *CWP_IG) op risk margin = MIN {30% * CR0, (8.50% *CR0 + 2.50% *Pd + 1.75%* Pa + 2.50% Pr + 2.50% *PΔ) + MAX(0.75% Paig, 0.75% Prig)}

Question 38

How do you calculate the capital required for interest rate risk?

Answer 38

CapReq(IntRt) =abs(∆i * mod D.Asset * PV(Asset)- ∆i * mod D liab * PV(liab)) ## Footnote ∆i=1,25% if not given

Question 39

How do you calculate the foreign exchange risk?

Answer 39

CapReq(Foreign Exchange=10%*max(Net long position, Net short position) | Net position = (foreign assets in CAD$ - foreign liabilities in CAD$)

Question 40

How do you calculate the equity risk?

Answer 40

30% * (common shares + joint ventures < 10% owned + futures + forwards + swaps)

Question 41

How do you calculate the real estate risk?

Answer 41

10% * owner-occupied property + 20% * investment property

Question 42

identify the risks of holding a reinsurance contract with a reinsurer

Answer 42

* reinsurer won't pay insurer what is owed * mis-assessment of required provision (the amount the insurer expects to be paid)

Question 43

How do you calculate marging for Unregistered RE

Answer 43

Unregi RE Margin = 20%*(A+B) - Ded(unRE) Ded(unRE) * Calculate Total exposure = A+B+C * Calculate Total Collateral = D+E+F+G+H+I `if Exposure < Collateral, then` Ded(unRE) = Total Collateral - Total exposure | `if Exposure > Collateral, then ded to Capital available` ## Footnote A: unexp. Cov prm on RE held == ARC+RE comm + prm payable to the assuming insurer, if PAA ; B:Ceded incurred claims==assets for incurred.; C: CF (out) within the funds withheld collateral, ass. C=0; D:RE Receivable; E: RE payable; --collaterals: F: Non-owned deposits RSA; G: Other Non-owned depot.; H: collaterals funds held, I: Letter of cred *Always check LOC limit = 30%(A+B)