Longevity risk transfer to provide capital relief in Solvency II calculations?

We’ve written a few times about the potential for insurance-linked securities and catastrophe bond type risk transfer transactions to be recognised under the new Solvency II regime as forms of capital relief (find one of our previous articles here). The reduction in risk they offer could be recognised in Solvency II calculations if that received regulatory approval.

Much has been written in recent months about how Solvency II could increase interest in these forms of catastrophe risk transfer for non-life re/insurers. Now, a report from Fitch Ratings, suggests that the same could be true of longevity risk transfer for life re/insurers.

The report published just over a week ago by Fitch Ratings is titled ‘QIS5 – Insurers’ Capital Solid NonLife and Small Niche Players Disadvantaged‘. It looks at the coming Solvency II regime and suggests that the impact on insurers capital positions may not be as severe as the industry originally thought. It’s well worth reading.

Of interest to us are Fitch’s comments on how the regulations impact life insurers. They say that life underwriting risk accounts for 24% of the solvency capital requirements, and a proportion of that is made up of an insurers longevity risks. Therefore, Fitch states; “Longevity risk transfer is therefore another potentially important capital lever available to life insurers”.

So, if the commentary has been accurate over the past few months, forms of capital markets risk transfer could help re/insurers meet the Solvency II capital requirements by accounting for their risks more efficiently. Of course, for risk transfer mechanisms such as insurance-linked securities and longevity risk transfer to count they must have their basis risk properly quantified and use collateral which reduces counterparty risk.