Solvency II - a risk exposure presentation method

Some weeks ago I was shown the Global Risks Report 2011 from the World Economic Forum. This report, just like the ORSA Report under Solvency II has the purpose of highlighting risks exposures and the relationships between them. I liked the presentation of risks used, and I thought I'd try to apply it to life insurance. This is an example risk map for a fictitious life insurer which sells savings and protection business, including term assurances and annuities.



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Key:

  1. Size of risks shown by size of boxes.
  2. Associated risks shown in the same colour:
    1. Blue - market
    2. Red - credit
    3. Green -insurance
    4. Grey - operational/other
  3. Strength of connectedness shown by thickness of lines
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Compared to the typical Solvency II presentation of bar graphs with diversification benefit I think this is instantly more visually appealing. It is deliberately inaccurate in its presentation of results, using very few options for size of risk and strength of connectivity. The aim of this is to focus the eye on the key relationships rather than the minutiae of the (inherently approximate) numbers. I have also chosen to be vague as to the nature of the relationship between risks in the overall diagram, (for example correlated risks are shown the same as interacting risks) though directional relationships and explanations are included in the sub maps below.

A particular strength of this approach is scenario testing and reverse stress testing, as shown in the examples below. Triggers leading to multiple loss events are shown, and the strength of the causality can be shown too.


Market downturn



Pandemic flu




Interest rate mismatch



The scenarios shown above focus on solvency risks, but it would be easy to include less quantifiable risks such as risks to future new business and strategy. This is made easier by the vagueness in the quantification of the risk exposure sizes and strength of connectedness. Qualitative risk assessments can be shown side by side with quantitative ones.

I heard recently that a chief executive looking at actuarial forecasts is only interested in whether the lines are going up or down. I sympathise with this view, we actuaries can get bogged down in the detail. I see the sort of approach outlined above as a simple, effective and inclusive method of communicating. It is the sort of thing we need to adopt if we want the life insurance industry to base strategic decisions on our models.

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