IFRS17 UB 22 Public

Universitat de Barcelona22 November 2019DisclaimerThe views expressed in this presentation are solely mine andnot necessarily those of the Zurich Insurance Company.References are openly available in the internet.Guillermo MirActuary – SAV, CACIFRS17 senior analyst at Group ReinsuranceZurich Insurance Companyguillermomirp@gmail.com / guillermo.mirpiorno@zurich.com

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTPurpose of today:1. Answer “what” and “why” IFRS 172. Understand what is new3. Compare with existing methods4. Face some of the challengesEXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAEl futuro de lainformación financieraen seguros:IFRS 17END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTWhat is IFRS 17 ?EXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWhat is IFRS 17 ?It’s an accounting standard fromthe IFRS foundation.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWhen ?- Released in May 2017- Starting: 2021- Delayed to: 2023END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWho is it for ?-It describes insurancecontractsIt affects InsurancecompaniesFinal customer: shareholdersand potential investorsEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWho is this Board ?- Under the IFRS foundation- 14 independent experts- non profit accountingorganization based in London.- Mission statement: to providetransparency based onprinciplesEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWho listens to them ?- Countries are welcome toadapt these internationalaccounting standards- E.g. Spain applies IFRS (NormasInternacionales InformaciónFinanciera, NIIF) since 2008:END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWhat are the consequences ?- Directly the IASB has no legitimity toobligate companies- But national supervisors andregulators do- 1st Jan 2005 the EU adopts IFRS for allconsolidated reports of listedcompanies in EU.- Ensures that all companies within theEU use a unique accounting standard.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTWhy “17” ?Relased in year 2017 it’s a coincidence:EXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWhy is IFRS17 needed ?IFRS 17 will make:(a) insurers’ financial reportsmore useful andtransparent;(b) insurance accounting practices consistent acrossjurisdictions.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTIs it really necessary ?As per 2015, worldwideListed insuranceCompanies add to morethan USD22’100’000’000’000in assets.Approx. 17 Spain GDPEXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAHow many are already using an IFRS ?Insurance companies usingcurrent IFRS standard,add to USD13’300’000’000’000in assets.Approx. 10 Spain GDPEND

INTROBASICSSOMEONEMAY WANTTO SELL ARISKCSMDISCOUNTINGRISK CAN BEQUANTIFIEDANDTRANSFERREDRISK ADJUSTMENTEXTRASOMEONEMAY WANTTO BUY A RISKEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAEND companygives a service.CUSTOMERCustomer pays apremium INSURANCERISKINSURANCECOMPANY

INTROBASICSCSMHey! My leghurts!DISCOUNTINGRISK ADJUSTMENTEXTRAOh ! Here is100 CUSTOMERINSURANCECOMPANY“ a service”translated to aneconomic term.Not a good (IFRS 15)Not an investment return (IFRS 9)A service from an insurance contract (IFRS 17)END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAGovernments wants to maximise taxation NYomgINVESTORSTAX MEN& GOVERNANCEEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAENDHow many rules are out there ?2CUSTOMERSINSURANCECOMPANY1INVESTORSMCEVSolvency II in Europe3 Swiss Solvency Testin CH4Local statIFRS4US GAAP

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAThe industry is aware of the problemEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTIS IT POSSIBLE TO HAVEA COMPREHENSIVEREPORTING ?LET’S SEE WHAT IFRS17BRINGS INEXTRAEND

INTROBASICSCSMCUSTOMER CUSTOMER SHAREHOLDERS CECOMPANYRISK ADJUSTMENTEXTRApremiumClaimProfit ?END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRACan we visualize IFRS 17 vs IFRS 4 ?Let’s make some assumptions:-No time value of moneyNo taxExtremely simple expensesEnd of year view (post)100% deterministicMany more simplificationsEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAIFRS 4 - Profit and Loss (P&L) – example of 1 year longStep 3 / 3Premium 100Loss ratio of 50%Expense ratio of 40%profit 10The insurance company has 40 as expenses.As a result the profit is 10, which will be then taxed,allocated to dividends, etc.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAVisualization of IFRS 17 vs IFRS 4All good ? Let’s tighten it:What if the claim is paid over 3 years ?END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAIFRS 4 - Profit and Loss (P&L) – example of 3 year longStep 5 / 5After 3 years:Are these results adequate ?- What is the tax impact over time ?- What kind of volatility are the investors perceiving ?- Is this a realistic image of the insurance performance?END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAIFRS 17 - Profit and Loss (P&L) – example of 3 year longStep 3 / 6𝐶𝑆𝑀 𝐵𝐸𝐿()* ,-. 𝐵𝐸𝐿,01* ,-.𝐶𝑆𝑀23,41(521(,)𝐶𝑆𝑀10 3.33𝑐𝑜𝑣𝑒𝑟𝑎𝑔𝑒 𝑝𝑒𝑟𝑖𝑜𝑑3END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAIFRS 17 - Profit and Loss (P&L) – example of 3 year longStep 4 / 6First item in the P&L is the CSM amortization𝐶𝑆𝑀23,41(521(,)𝐶𝑆𝑀10 3.33𝑐𝑜𝑣𝑒𝑟𝑎𝑔𝑒 𝑝𝑒𝑟𝑖𝑜𝑑3END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAIFRS 17 - Profit and Loss (P&L) – example of 3 year longStep 6 / 6Hence, after 3 years:END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTP&L - IFRS 4 vs IFRS 17 – 3 years longIFRS4IFRS4IFRS17IFRS17EXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTP&L - IFRS 4 vs IFRS 17 – 5 years longIFRS4IFRS4IFRS17IFRS17EXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTP&L - IFRS 4 vs IFRS 17 – 1 ; 3 ; 5 years longEXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAWhat kind of simplifications have we done ?- Cash flows at t 0 (pre) are not part offuture cash flows- No effects of interest ; no unwind oraccretion- No effect of taxes, acquisition costs,changes in estimates, and a total 100%certainty of our Best Estimate.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAChallenges so far !1) Update all the accounting systems and bookinglogics2) Reengineer the actuarial systems to accomodateCSM calculations and reformulate algorithms3) Introduce a large number of “expected vs actual”linesCosts ?(!) In average each insurance company is budgeting more than50m USD.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRASurprises so far !1) Premium no longer in the P&L !2) Profit is amortized and “digested” overtime3) Numerous Analysis of Change implications,not even now in place4) Short term business do not seem to besensitive to IFRS4 or IFRS17 choiceEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAShort vs Long- It’s not about Life vs non-Life- What matters is a short vs long timehorizon of the coverage period- “Short vs Long” already exists under in IFRS4 and US GAAP- IFRS17 allows a simplified approachEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRALet’s tighten it another turn:Calculating a Present Value implies using ayield curve.- What yield curve ?- IFRS 17 standard does not provide areferenceEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRASolvency II provides it- E.g. Solvency II defines that :” In line with the Solvency II Directive, EIOPA publishes technical informationrelating to RFR term structures on a monthly basis. By this publication EIOPAensures consistent calculation of technical provisions across Europe and, thus,higher supervisory convergence for the benefit of the European insurancepolicyholders.”END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAOnly principlesIFRS 17 defines principles about discounting,and also about the Cash Flows and the “BestEstimate”.But there is no explicit guidance on how to doit.The entity will have to disclose the methods.END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRADiscounting Non Life businessBy tradition, non life business neverdiscounted future cash flows.“ it’s too volatile ”“ we are not like Life ”Under IFRS17 it is required to discount futurecash flows. But how?END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRADiscounting Non Life business1. Non-Life insurance does patterns toestimate the future reserves required2. Non-Life does patterns to estimate howpast claims have been paid3. Combination would result in a future CFEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRADiscounting Non Life businessStep 1/ - losses paid per periodThe Payment Pattern vector can be combined with the totalnominal reserves.As example, imagine having 8’700 as Reserves at 31dec2019END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTDiscounting Non Life businessStep 2/ - building a nominal CF(G)𝑃𝑉 F 𝐶𝐹( · 𝑑𝑓((GHEXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRADiscounting Non Life businessThe attachment issueThe entity will have monthly discount yield curves.But, Non-Life business is traditionally using whole year values(development years).END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAENDDiscounting Non Life businessThe attachment issueSo, at the end of the year we have 12 months of information withend-of-the-month yield curve.etc.

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAENDDiscounting Non Life businessThe attachment issueAs example, imagine that you measure your weight at the end ofeach month during a year:72 686666686769711. What is the average ? 69,252. To what point of the year you attach it to ?69707273

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAENDIFRS 17 P&L – the unwind- The IFRS17 P&L shown previouslywas too simple- IFRS 17 willseparate service andfinance components

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAENDLocked-in vs current-As we have Expected vs actuals for claims andexpenses, there will be a line for“change in discount rates”Changes will becharged to the P&L

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRALocked-in vs current-To have Locked-in assumptions to the inceptiondate is already a requirement in IFRS 4 / US GAAP-In subsequent periods, current market parametersare compared to the locked-in-IFRS 17 allows to use this concept to smoothresults: the OCI option (“Other ComprehensiveIncome”)-Equity can absorb votilityEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAThe uncertainty- How certain are we about the time andamount of the Cash Flows ?END

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAThe uncertainty- Entities are skilled in calculating RiskMargins for Solvency II, SST, MCEV, - Entities will use current methodologies- Risk Adjustment uncertainty – certainty- IFRS 17 requires to disclose a confidencelevelEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAThe Risk Adjustment for non financial risksEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAENDThe Risk Adjustment for non financial risksExample of creating confidence levelsQuantile 99%Current Best Estimate meanStandard deviation canbe derived

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTThe reinsuranceIFRS 17 requires reinsurance as a uniqueline in P&L.Other figures are gross.EXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTEXTRAThe URREDCLAIMSContractual Service MarginRisk AdjustmentDiscountingExpected future Cash FlowsRisk AdjustmentDiscountingExpected future Cash FlowsEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTThe granularity issueInsurance companyPortfolio 1Portfolio: same risks managed togetherExample:Annuity ( without lump sum )EXTRAEND

INTROBASICSCSMDISCOUNTINGRISK ADJUSTMENTThe granularity issueInsurance companyPortfolio XTRAEND