Capital Requirements forCapital Requirements forFinancial Holding Financial Holding

Companies in TaiwanCompanies in Taiwan

Tsai-Ching Lai & Min-Teh YuTsai-Ching Lai & Min-Teh Yu

Jin-Wen Institute & Taiwan Insurance Jin-Wen Institute & Taiwan Insurance InstituteInstitute

Providence UniversityProvidence University

◆ In 2001, the FHC Act was passed.

◆ 14 FHCs in Taiwan, a total of 802 b in BV as of 2003.

(IUS$=32NT$)

Introduction

Company Company NameName

Hua-Hua-NanNan FubonFubon CathayCathay China China

DevelopmentDevelopment E.SunE.Sun FuhwaFuhwa MegaMega

FoundingFounding DateDate 12/19/0112/19/01 12/19/0112/19/01 12/31/0112/31/01 12/28/0112/28/01 01/28/0201/28/02 02/04/0202/04/02 02/04/0202/04/02

CapitalCapital(billion NT$)(billion NT$) 5656 8181 8585 118118 2929 3030 114114

Company Company NameName TaishinTaishin Shin Shin

KongKong WaterlandWaterland SinopacSinopac China China TrustTrust FirstFirst Jih SunJih Sun

FoundingFounding DateDate 02/18/0202/18/02 02/19/0202/19/02 03/26/0203/26/02 05/09/0205/09/02 05/17/0205/17/02 01/02/0301/02/03 02/05/0202/05/02

CapitalCapital(billion NT$)(billion NT$) 4848 3232 2121 4040 6060 5555 2323

◆ Current Capital Adequacy Requirements: (IUS$=32NT$)

Stand-alone basis rather than the combined basis.

> Banking - 10 billion NT

> Securities - 1 billion NT

> Non-life insurance - 2 billion NT

> Life insurance - 2 billion NT

> FHC - 20 billion NT

◆ A simple attempt to measure the risk capital for FHC

and its Subs using VaR method.

*Risk Capital = Capital-at-Risk = Value-at-Risk

VaR = the quantity of capital required to ensure, with a given CL, that the

enterprise does not become insolvent.

*A FHC in Taiwan must be a pure holding company

◆ Determine the asset allocations of FHC for it subs.

Allocation methods: Equal-weight, Regulatory, Mean-Variance, Mean-VaREqual-weight, Regulatory, Mean-Variance, Mean-VaR

◆ Index portfolio proxies for each sub

Table 1

Data and Estimates

01/01/1997 -12/31/ 2001

Industry Daily Index and Average

FHC FHC SubsidiariesSubsidiaries

Mean of equity Mean of equity daily return daily return

(%)(%)

StdDev of StdDev of equitydaily equitydaily return (%)return (%)

Mean of Mean of equity valueequity value(billion NT$)(billion NT$)

StdDev of StdDev of equity valueequity value(billion NT$)(billion NT$)

BankingBanking 0.83250.8325 0.05940.0594 473,502473,502 151,305151,305

SecuritiesSecurities 0.53870.5387 0.08380.0838 194,898194,898 36,56636,566

Non-lifeNon-life 0.43720.4372 0.06080.0608 65,99765,997 11,54111,541

LifeLife 0.32890.3289 0.05530.0553 402,786402,786 69,24469,244

Data

FHC FHC SubsidiariesSubsidiaries BankingBanking SecuritiesSecurities Non-lifeNon-life LifeLife

BankingBanking 1.00001.0000 -0.0213-0.0213 0.02610.0261 -0.0165-0.0165

SecuritiesSecurities -0.0213-0.0213 1.00001.0000 0.01650.0165 0.00180.0018

Non-lifeNon-life 0.02610.0261 0.01650.0165 1.00001.0000 0.01370.0137

LifeLife -0.0165-0.0165 0.00180.0018 0.01370.0137 1.00001.0000

Table 2

Correlation Matrix for 4 Subsidiary Indexes

Table 3

Asset Allocations of FHC

FHCFHCSubsidiariesSubsidiaries

Equal-weightEqual-weight AllocationAllocation

Regulatory Regulatory AllocationAllocation

Mean-Variance Mean-Variance AllocationAllocation

Mean-VaR Mean-VaR AllocationAllocation

Banking Banking 25% 66.67% 35.46% 37.57%

SecuritiesSecurities 25% 6.67% 26.67% 35.48%

Non-lifeNon-life 25% 13.33% 19.44% 14.02%

LifeLife 25% 13.33% 18.43% 12.93%

(A) Banking subsidiary – Historical Simulation VaR

(B) Securities subsidiary – Historical Simulation VaR

(C) Non-life subsidiary – Historical Simulation VaR

(D) Life insurance subsidiary – Historical Simulation VaR

(E) FHC – Historical Simulation VaR

Table 4

Capital-at-Risk

Pure Risk AnalysisFHCFHC

SubsidiariesSubsidiariesEqual-weight Equal-weight

AllocationAllocationRegulatory Regulatory

AllocationAllocation

(1) Banking(1) Banking 5.35545.3554 13.846113.8461

(2) Securities(2) Securities 6.81436.8143 1.67341.6734

(3) Non-life (3) Non-life 6.59966.5996 3.31563.3156

(4) Life(4) Life 5.91545.9154 2.75122.7512

(5) Risk Capital of All Subsidiaries(5) Risk Capital of All Subsidiaries(5) = (1)+(2)+(3)+(4)(5) = (1)+(2)+(3)+(4) 24.684724.6847 21.586321.5863

(6) Risk Capital of the FHC(6) Risk Capital of the FHC 11.839711.8397 15.760415.7604

(7) Diversified Risk Capital = (5) – (6)(7) Diversified Risk Capital = (5) – (6) 12.845012.8450 5.82595.8259

(8) Index of Diversification Effect=(7)/(5)(%)(8) Index of Diversification Effect=(7)/(5)(%) 52.0452.04 26.9926.99

(9) Expected Return of the FHC(%)(9) Expected Return of the FHC(%) 0.53430.5343 0.69310.6931

(10) Index of Allocation Effect=(9)/(6)(%)(10) Index of Allocation Effect=(9)/(6)(%) 4.514.51 4.404.40

（ Unit: Standard Unit）

Table 5

Capital-at-Risk

Risk and Return AnalysisFHCFHC

SubsidiariesSubsidiariesMean-VarianceMean-Variance

AllocationAllocationMean-VaR Mean-VaR AllocationAllocation

(1) Banking(1) Banking 6.78236.7823 8.43718.4371

(2) Securities(2) Securities 6.89726.8972 7.48937.4893

(3) Non-life (3) Non-life 6.25186.2518 6.89436.8943

(4) Life(4) Life 6.46216.4621 6.67366.6736

(5) Risk Capital of All Subsidiaries(5) Risk Capital of All Subsidiaries(5) = (1)+(2)+(3)+(4)(5) = (1)+(2)+(3)+(4) 26.393426.3934 29.494329.4943

(6) Risk Capital of the FHC(6) Risk Capital of the FHC 12.573912.5739 11.842611.8426

(7) Diversified Risk Capital = (5) – (6)(7) Diversified Risk Capital = (5) – (6) 13.819513.8195 17.651717.6517

(8) Index of Diversification Effect=(7)/(5)(%)(8) Index of Diversification Effect=(7)/(5)(%) 52.3652.36 59.8559.85

(9) Expected Return of the FHC(%)(9) Expected Return of the FHC(%) 0.69310.6931 0.69310.6931

(10) Index of Allocation Effect=(9)/(6)(%)(10) Index of Allocation Effect=(9)/(6)(%) 5.515.51 5.855.85

（ Unit: Standard Unit）

Conclusion

1. Risk Capital of FHC: MVaR < MV < Reg

- MVaR is Lowest subject to the same risk / CL

2. Diversification Effect: MVaR > MV > EW > Reg

- More effective for MVaR than Reg

3. Risk/Return Efficiency: MVaR > MV > EW > Reg

- Efficient use of capital

4. Capital Requirements:

- Combined basis at FHC > Stand-Alone at Subs

5. Rooms for Reg to changes towards MVaR & MV