2011
EMSS 2011 Proceeding
A Stochastic Approach To Risk Modeling For Solvency Ii
Authors: Vojo Bubevski
Abstract
Solvency II establishes EU-wide capital requirements and risk management standards for (re)insurers. The capital requirements are defined by the Solvency Capital Requirement (SCR), which should deliver a level of capital that enables the (re)insurer to absorb significant unforeseen losses over a specified time horizon. It should cover insurance, market, credit and operational risks, corresponding to the Value-at-Risk (VAR) subject to a confidence level of 99.95% over one year. Standard models are deterministic, scenario-based or covariance-based, i.e. non-stochastic. They don?t optimise the investment portfolios. These are two major deficiencies. A stochastic approach is proposed, which combines Monte Carlo Simulation and Optimisation. This method determines minimal variance portfolios and calculates VAR/SCR using the optimal portfolios? simulation distributions, which ultimately eliminates the standard models? deficiencies. It offers (re)insures internal model options, which can help them to reduce their VAR/SCR providing higher underwriting capabilities and increasing their competitive position, which is their ultimate objective.
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