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Interest Rate Risk & Duration Matching: A Regulatory Perspective

Interest Rate Risk & Duration Matching: A Regulatory Perspective. Chet Szczepanski Chief Actuary Pennsylvania Insurance Department. VFIC Study. Timely Utilizes DFA Important Conclusion. Important Conclusion. Long duration strategies performed better than matched duration strategies.

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Interest Rate Risk & Duration Matching: A Regulatory Perspective

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  1. Interest Rate Risk & Duration Matching:A Regulatory Perspective Chet Szczepanski Chief Actuary Pennsylvania Insurance Department

  2. VFIC Study • Timely • Utilizes DFA • Important Conclusion

  3. Important Conclusion • Long duration strategies performed better than matched duration strategies. • A matched portfolio is not inherently superior to a longer one.

  4. One Regulator’s Conclusion • The VFIC paper demonstrates that it makes about as much sense to insist that a healthy P&C insurer adopt a duration matching investment strategy as it would to insist that the same insurer hold his assets in passbook savings accounts. • This conclusion is pretty much inescapable!

  5. BUT • Should duration analysis and matching be expelled from the regulator’s toolkit?

  6. One Regulator’s Opinion • Not yet!

  7. Key Observations • Most P&C insurers invest in portfolios of assets with durations longer than those of their liabilities. • Life insurers discount their liabilities bringing them closer to an economic presentation. • Two sided risk measures are elegant, but less likely to be relevant to a company’s actual long term success. • There is no consideration in this analysis of future cash flows.

  8. Net Duration

  9. What “Risk” Concerns the Regulator? • It is most definitely one sided! • It is that the entity will not be able to honor its obligations!

  10. What Happens When RBC Drops to Company Action Level and Below? • Reserves are effectively discounted! • Survival, rehabilitation or liquidation become critical question. • Duration matching becomes critical!

  11. Hypothetically, What Do We Do When An Entity Is: • Highly leveraged with regard to reinsurance, • Writes mostly rating sensitive business?

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