Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Update on Changes to MCCSR (PD-12) CIA Seminar for the Appointed Actuary September 21, 2004 by: Bernard Dupont

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières AGENDA Major changes since 2000 Future Direction of Life Insurance Capital Requirements –Initiatives Underway –Long Term views

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Major Changes Since % MCCSR/TAAM designated as the Supervisory Target Level 105% minimum Tier 1 ratio

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Major Changes Since Mortality factors reduced for non-par Individual Life products Index-linked products: -Required capital factor = 100% - correlation factor

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Major Changes Since 2000 C-1 factor for par business -50% of normal MCCSR requirement Segregated Funds: -Company’s own model can be used for entire company with OSFI’s prior approval

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Major Changes Since Expanded lapse component to cover all durations and all individual products Continued to deduct negative reserves from Tier 1 (adjusted for taxes) and include in Tier 2C Removed 25% haircut and 33% of Tier 1 limit

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Major Changes Since 2000 Impact of new methodology: Full implementation impact is capital neutral in aggregate Only a handful of companies materially negatively impacted Better reflects risks Therefore, no recalibration anticipated

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction OSFI is preparing a “Think Piece” on the future of MCCSR. Reasons for this assessment: -Various CLHIA proposals -IAIS Standards -New Basel Accord -IAA Solvency paper

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Initiatives Underway (for 2005) New company-specific factors for mortality New segregated fund approach New definitions of negative reserves and CSV deficiencies

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Initiatives Underway (for 2005) Mortality: OSFI is favourable towards the CIA’s draft proposal We are concerned by impact on certain segments of the industry A more comprehensive survey might be required

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Initiatives Underway (for 2005) Segregated Funds: -Investment return data updated -Lapse rates now vary by MV and GV (avg. 8%) -Creation of thousands of factors differentiated by product, age, duration, etc.

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Initiatives Underway (for 2005) Segregated Funds: -Call utility will produce the capital factors -No need to interpolate, less manual intervention -OSFI will test the factors this year

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Initiatives Being Assessed New Negative Reserve definition: To be calculated policy-by-policy for all lines of business New CSV deficiency definition: Only policies with CSVs allowed in aggregation

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction Long Term views: Encourage enhanced risk management Explicit on what the risks are and how they are reflected

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction When supported by the data, move towards: - Company-specific approaches - Total Balance Sheet approaches - Own-company models

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction Diversification -Cannot be implemented in isolation -New approaches will allow consideration of risk diversification

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction -Diversification should take into account correlations between and within the risk categories. -Needs to be integrated into companies’ risk management processes and capital allocation

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction Comprehensive models Development will take time Supervisory criteria are needed Should be part of risk management framework and used to set internal targets

Office of the Superintendent of Financial Institutions Bureau du surintendant des institutions financières Future Direction More than one test? - Liquidation basis? Work closely with the CIA and the CLHIA