PRA letter to CROs provides feedback on funded reinsurance arrangements

The PRA has published a Letter from Charlotte Gerken, Executive Director, Insurance Supervision, to Chief Risk Officers (CROs) of life insurance firms sharing insights and feedback on the PRA’s preliminary thematic review work on funded reinsurance (FundedRe) arrangements in the UK life insurance sector.

FundedRe transfers both asset/investment risk and longevity risk to a reinsurer, and, essentially, all the material risks of a bulk purchase annuity (BPA transaction).

The review aimed to enhance understanding of the transactions entered into by the UK life insurance firms, their assessment of associated benefits and risks, and the potential impact of FundedRe on the PRA’s statutory objectives. The thematic review focused on firms’ three key practice areas:

  • structuring of the transactions;
  • risk frameworks; and
  • capital requirements.

It assessed the potential for disruption caused by recapture (whether due to default or other factors) during a time of market stress. The findings highlighted some deficiencies in firms’ practices related to structuring, risk management, and capital requirements, with sub-optimal collateral portfolios and resource sufficiency identified as key risk sources.

The PRA urges firms to address these findings through appropriate remedial measures, while planning additional supervisory work to assess insurers’ use of FundedRe, particularly focusing on collateral risk management and internal model approaches.

The PRA is also contemplating the need for further policy consultations and potential steps to advance its primary objectives, while considering the impact on the PRA’s secondary objective for competition and its forthcoming secondary objective for international competitiveness and growth.

While limited risks were identified from the use of FundedRe within diversified asset strategies, with the intention of gaining (indirect) exposure to asset classes beyond the origination capacity of the UK industry, significant potential risks were observed from its systematic use to meet the increased demand for bulk transfer of defined benefit pension liabilities.

Additionally, the PRA requests all firms to promptly notify their PRA supervisor of individual material FundedRe transactions entered into from the date of its letter.

FIN. Team