Report on the IAA Activities in ERM
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Transcript of Report on the IAA Activities in ERM
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Report on the IAA Activities in ERM
David Ingram, CERA
Chairman
Enterprise & Financial Risks Committee, IAA
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IAA Background
Worldwide association of professional actuarial associations (62 Full Member and 26 Associate Member associations)
MISSION:
To represent the actuarial profession and promote its role, reputation and recognition in the international domain;
To promote professionalism, develop education standards and encourage research, with the active involvement of its Member associations and Sections, in order to address changing needs.
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ERM is new Focus of IAA
Now One of Top Priorities
Global CERA Treaty
Role of the Actuary in ERM Report
Enterprise & Financial Risks Committee
AFIR ==> AFIR/ERM
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Global CERA Treaty
Not officially an IAA initiative
13 Actuarial Organizations are signatories
Legal entity in Switzwerland owns CERA
3 Associations are now certified to grant CERA– SOA – 700 awarded– IFA(UK) – 9 awarded– IAAust – 20 awarded
3 Associations in process to be certified– CAS, South Africans, Netherlands
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Role of the Actuary in ERM
Report to IAA Executive Committee – Summer 2010
Actuarial USPs– Familiarity with strong range of quantitative risk
management techniques– Rigor in approaching the assignment– Integrity in executing the assignment– Objectivity in communicating in business terms about the
assignment– All Reinforced by the most demanding professional
requirements.
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Action Plan
Promote the position of actuaries in ERM Field
Support the Globalization of CERA
Provide Platforms for CPD in ERM for actuaries around the world
Support and direct research in ERM
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Action Plan
To be executed by – Exec Committee – CERA committee– Enterprise & Financial Risks Committee– AFIR Section– Advice and Assistance Committee– Insurance Regulations Committee
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Enterprise & Financial Risks Committee
Existing Work– ERM Report– CERA Report– Other Financial Crisis Report
New Work– Actuarial Review of Risk Management Practices
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Enterprise & Financial Risks Committee
New Tasks from Role of the Actuary Report– Work with the IMF on projects relating to risk management
three projects subsequently initiated by Coleman & Ingram with Supranational Committee
– Conduct a Survey of ERM Practices to be started for Sydney
– Construct a library of Case Studies to be started by Sydney
– Develop a package of material to promote ERM to actuaries Work has started on document providing guidance on
guidance for actuaries on ORSA – adapting a document prepared by the Groupe Consultatif
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AFIR & ERM
AFIR is one of the longstanding sections of the IAA– AFIR objective - the promotion of actuarial research in
financial risks– AFIR organises colloquia and publishes papers on the
subject.
In 2011, is planning to adopt ERM as a key focus
AFIR will also take up new tasks from the Actuarial Roles in ERM report
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AFIR & ERM
New Tasks
Develop List of Top Outstanding ERM research questions
Develop a Web site for exchanging ERM Research References
Sponsor Local Meeting Panel Discussions on International approaches to ERM, Differences, Impact in Local Area
Find Speakers & Topics for Global ERM Colloquium in 2012
Sponsor Webinars on ERM topics
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ASB ERM Task Force
Two Discussion Draft Standard of Practice Risk Assessment Risk Treatment
Will be distributed for discussion in the spring
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RISK MANAGEMENT THROUGH THE BUSINESS CYCLE
Alice Underwood, PhD, FCAS
Dave Ingram, FSA, CERA, FRM, PRM
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Agenda
The theory of plural rationalities
The four seasons of risk
The four risk management strategies
Rational adaptability – a radical ideal
Practical harmonization – the inelegant solution
Risk attitudes and the insurance market
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Plural RationalitiesFour views of risk
Managers
Pragmatists
Conservators
Maximizers
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Maximizers’ view
Risk is not very important – profits are important
It’s fine to accept large risks, as long as the price is right
Risk is mean reverting:
– Gains will always follow losses
– The best companies will have larger gains and smaller losses over time
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Conservators’ view
Increasing profit is not as important as avoiding loss
Need to tightly limit risks
The world is in a delicate balance
– Any major change could send things into ruin
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Managers’ view
Risk is measurable and controllable
Risk and reward should be carefully balanced
Experts are best suited to
– Help find risks offering the best rewards
– Manage these risks to keep firm safe
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Pragmatists’ view
The future is totally unpredictable
You can’t control risk so there is no point in trying
It is usually best to
– Avoid major commitments
– Keep options open
– Seek freedom to react to changing conditions
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Would you say that your own risk attitude is:
Managers
PragmatistsConservators
Maximizers
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Would you say that your own risk attitude is:
AttitudeRisk
ManagersSingle Insurer
Employees Actuaries
Maximizer 9% 9% 7%
Manager 72% 73% 66%
Conservator 7% 8% 13%
Pragmatist 11% 11% 13%
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Would you say that your firm’s predominant risk attitude is:
Managers
PragmatistsConservators
Maximizers
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Would you say that your firm’s predominant risk attitude is:
AttitudeRisk
ManagersSingle Insurer
Employees Actuaries
Maximizer 23% 9% 17%
Manager 40% 52% 47%
Conservator 29% 30% 28%
Pragmatist 7% 8% 8%
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Dynamic beliefs
Risk attitudes change with
– Changes in environment
– Changes in risk capacity
– New experiences
This is true of
– Individuals
– Groups
– Firms
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Agenda
The theory of plural rationalities
The four seasons of risk
The four risk management strategies
Rational adaptability – a radical ideal
Practical harmonization – the inelegant solution
Risk attitudes and the insurance market
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Four seasons of risk
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Four seasons of risk
Long term averages seem to hold up well
Hedging has the expected impact
MODERATE
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Four seasons of risk
Risky decisions pay off handsomely
Unhedged positions beat out carefully hedged positions
BOOM
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Four seasons of risk
Suddenly, things get really RISKY
Almost any course of action presents
potentially fatal threats
UNCERTAIN
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Four seasons of risk
Many risks have turned into LOSSES
Risk management focuses on survival
BUST
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In 2007 and 2008, the risk environment for my business was:
Moderate
Boom
Uncertain
Bust
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In 2007 and 2008, the risk environment for my business was:
2007-08Environment
RiskManagers
Single Insurer Employees Actuaries
Moderate 29% 22% 27%
Boom 14% 19% 23%
Uncertain 46% 45% 35%
Bust 11% 14% 15%
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Risk environment impacts risk attitude
During the BOOM
Attitudes shift towards Maximizer
During the BUST
Attitudes shift towards Conservator
In UNCERTAIN times
Attitudes shift towardsPragmatist
In MODERATE times
Attitudes shift towardsManager
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Agent Based ModelSurprise Game
Resources by Strategy
0%
20%
40%
60%
80%
100%
Pragmatists Conservators Maximizers Managers
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How many times has your firm’s risk attitude changed between 2006 and now?
0
1
2
3 or more
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How many times has your firm’s risk attitude changed between 2006 and now?
# Changes since 2006
RiskManagers
Single Insurer Employees Actuaries
0 20% 9% 36%
1 31% 20% 33%
2 34% 50% 24%
3 or more 16% 21% 7%
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Agenda
The theory of plural rationalities
The four seasons of risk
The four risk management strategies
Rational adaptability – a radical ideal
Practical harmonization – the inelegant solution
Risk Attitudes and the Reinsurance Market
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Risk management strategies
Diversification
Loss controlling
Risk trading
Risk steering
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Diversification
Oldest type of risk management
– Spread exposures across different classes of risks
– Avoid large risk concentrations
Formal diversification programs set targets for the spread of risk
– Maximums and minimums for various classes of risk
ERM adds idea of interdependencies across classes
– Provides better quantification of the benefits of risk spreading
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Loss controlling
Most traditional form of risk management
– Identify and mitigate the most significant risks
Commonly practiced by non-financial firms
– Also applies to financial risk
Careful underwriting of loans / insurance policies
Claims management & credit workout
ERM has added inclusion of an aggregate, firm-wide view of risk
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Risk trading
Newer form of risk management
– Arose from trading desks and the insurance industry
Focus on getting the price of risk correct
– Requires complicated models of risk, reward, and economic capital
Can be applied on a transaction-by-transaction or other “siloed” basis
– Establishment of a consistent risk valuation on a firm-wide level is risk trading ERM
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Risk steering
Applies the ideas of risk trading at a macro level to the major strategic decisions of the firm
– Seeks the optimal risk / reward balance
– Tries to steer the firm in that ideal direction
Fundamentally an enterprise-wide approach
Some seem to think that only risk steering is “real” ERM
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Favorite risk management strategies
Conservators favor loss controlling
Maximizers favor risk trading
Managers favor risk steering
Pragmatists favor diversification
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The predominant risk management strategy of my firm is:
Diversification
Loss Controlling
Risk Trading
Risk Steering
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The predominant risk management strategy of my firm is:
FirmStrategy
RiskManagers
Single Insurer Employees Actuaries
Diversification 27% 31% 18%
Loss Controlling 41% 6% 29%
Risk Trading 8% 12% 27%
Risk Steering 25% 51% 25%
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Pro-cyclical factors
During each stage
– Group in control picks up followers
– The other groups shed followers
– Timing across firms not synchronized, but close enough to magnify the ups and downs of the market as a whole
A retelling of the obvious?
– But the 4 risk strategies were identified over 25 years ago by anthropologists seeking to explain completely different situations
– Since then, these 4 groupings have been found over and over in many different contexts
Can the insurance industry learn something useful from this framework?
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Agenda
The theory of plural rationalities
The four seasons of risk
The four risk management strategies
Rational adaptability – a radical ideal
Practical harmonization – the inelegant solution
Risk Attitudes and the Reinsurance Market
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Rational adaptability
Discipline means sticking to your strategy no matter what
Adaptability means aligning
– Risk attitude
– Risk environment
– Risk strategy
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Rational adaptability
Risk Environment BOOM BUST UNCERTAIN MODERATE
Risk Attitude Maximizer Conservator Pragmatist Manager
Risk Management Strategy
Risk Trading
Loss Controlling Diversification Risk
Steering
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Agent Based ModelPreliminary Findings
Stay the CourseStay the Course Average Return Std Dev Return Failure Rate
Pragmatists 0 15.3 10.61%
Conservators 0 5.39 0.01%
Maximizers 4.28 32.08 26.96%
Managers 2.88 17.96 12.90%
AdaptationAdaptation Average Return Std Dev Return Failure Rate
0% -1.69 19.35 19.97%
25% 1.94 20.12 16.09%
50% 5.56 20.21 12.19%
75% 9.19 19.64 8.32%
100% 12.81 18.46 4.76%
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The chance that my firm could “get it right” and identify the changing risk environment and adapting our risk management strategy is:
0%
25%
50%
75%
100%
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The chance that my firm could “get it right” and identify the changing risk environment and adapting our risk management strategy is:
Chance of “getting it right”
RiskManagers
Single Insurer Employees Actuaries
0% 7% 5% 5%
25% 30% 19% 19%
50% 38% 44% 44%
75% 25% 27% 27%
100% 0% 5% 4%
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Agenda
The theory of plural rationalities
The four seasons of risk
The four risk management strategies
Rational adaptability – a radical ideal
Practical harmonization – the inelegant solution
Risk Attitudes and the Insurance Market
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Be realistic
Rational adaptability is an ideal strategy
Almost impossible to simultaneously
– Know when the risk environment shifts
– Do what it takes to
Shift the firm's risk attitude
Execute the new risk strategy competently
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Harmonization
A practical alternative
An inelegant solution
Keep all four risk attitudes in the discussion
Create compromise strategies
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Conclusions
As with any other strategy, harmonization must be more than superficial
– Important to truly value all views of risk
– Really believe that there is no totally wrong view
Keep your eye on the rational adaptability ideal
– Your course should be somewhere between “stay the course” and rational adaptability
– Over time getting closer and closer to the ideal
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Agenda
The theory of plural rationalities
The four seasons of risk
The four risk management strategies
Rational adaptability – a radical ideal
Practical harmonization – the inelegant solution
Risk Attitudes and the Insurance Market
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Risk Attitudes and the Insurance Business
Insurance Market is interplay of
Risk Attitudes of Customers
Risk Attitudes of Insurers
Risk Environment – current and recent history
What are the current dynamics?
DISCUSSION
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Contact information
David Ingram
+1 212 915 8039
Alice Underwood
+1 212 915 8439
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ERM THROUGH THE BUSINESS CYCLE
Alice Underwood, PhD, FCAS
Dave Ingram, FSA, CERA, FRM, PRM