According to ratings agency AM Best, the upcoming changes to the UK’s solvency regulations – which are expected to be finalised in November – are likely to bring positive impacts to UK insurers.
The reforms follow the Prudential Regulation Authority’s (PRA) review of Solvency II, and will largely impact the life insurance sector.
In a new report released by AM Best, the agency highlights key elements of the PRA’s planned reforms, which includes adjustments to the risk margin (RM) for life insurers, alterations to discount rates in the matching adjustment (MA) calculation, as well as revised eligibility criteria for both assets and liabilities in MA funds.
Moreover, additional regulatory simplifications are also planned, with changes tailored towards smaller insurers, internal models and the recalibration of transitional provisions.
From what we understand, the revised framework will be branded as Solvency UK.
AM Best suggests that the reforms will be beneficial for insurers, particularly life insurers. however, the agency does not expect immediate major impacts. The agency explains that expanded eligibility criteria within the matching adjustment could allow insurers to hold more unlisted investments, a move that could potentially lead to a broader asset base while maintaining risk profiles.
As well as this, further changes to risk margin and matching adjustment changes, could provide net gains for insurers depending on the composition of their MA asset portfolios.
Furthermore, the European Union is also working through a similar programme of reforming Solvency II, that will also largely impact the life insurance segment, with different priorities compared to the UK.
In fact, AM Best observed that the EU reforms include a slightly higher cost of capital (4.75%, compared to 4% in the UK proposals), and minimal changes to the matching adjustment, which is rarely used in the EU. Instead, it appears that the EU is making modifications to the volatility adjustment to resemble aspects of the UK’s matching adjustment approach.
There are also further proposals to reduce capital requirements for certain equity investments.
The EU and national regulators are also implementing a recalculation of transitional measures on technical provisions (TMTPs) which will prevent them becoming over-generous following the rise in interest rates over recent years. UK insurers have been recalculating TMTPs as of December 31, 2023.
Interestingly, AM Best explains, that while these reforms represent a gradual divergence between the UK and the EU solvency regimes following the UK’s exit from the EU, the two regimes remain very close in many respects.
