1. FAS 113: Risk Transfer Testing of Reinsurance Contracts Must Include
    • 1. Thorough understanding of contract provisions
    • 2. Model of the incidence of cash flows between parties
    • 3. Single, appropriate discount rate
    • 4. Insurance risk only
  2. VFIC Recommended Risk Transfer Analysis Include
    • 1. Risk transfer analysis included a view of the distribution of expected contract losses
    • 2. Identi cation of an appropriate risk metric and threshold values
    • 3. Duration-matched or immunized yields as the approprate discount rates
  3. FAS 113 Requirements of Risk Transfer
    • 1. Reinsurer assumes signi ficant insurance risk under the reinsured portions of the underlying reinsurance contracts (underwriting risk and timing risk)
    • 2. It is reasonably possible that the reinsurer may realize a signi ficant loss from the transaction
    • 3. Expection to 1 & 2: Substantially all the insurance risk relating to the reinsured portions of the underlying insurancecontracts has been assumed by the reinsurer
  4. 10-10 Rule
    • 1. Ceding company must demonstrate a value at risk of 10% at the 90th percentile of the distribution of the net present value of underwriting losses on the contract in question
    • 2. Problem: Many contracts which a reasonable person would regard as risky do not strictly have a 10% chance of loss 10% of the time (e.g., high level catastrophe programs)
  5. 5 Considerations in Applying VaR Tests
    • 1. Risk transfer testing requirements are prospective in nature
    • 2. Practitioners must go beyond the mean
    • 3. A model of the incidence of cash ows is required
    • 4. Discounted cash flow model should suffice
    • 5. Remote results can be judged on the basis of closed form distributions of results, simulations, or through scenario testing
  6. Weakness of Value At Risk (VaR) and Tail Value At Risk (TVaR)
    • 1. VaR considers only a single point on the loss distribution
    • 2. TVaR ignores losses below VaR and losses above VaR are treated on an expected basis only
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