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    What is the matching adjustment

    The matching adjustment allows firms to adjust the relevant risk-free interest rate term structure for the purposes of calculating the best estimate of a portfolio of MA-eligible insurance or reinsurance obligations.  [1]https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/supervisory-statement/2018/ss818.pdf    recheck best estimate of liabilities definition because this doesn't include SCR...so sentence is lacking.

    The MA is/can be used for:

    • technical provisions
    • SCR.

     

    To apply an MA, firms must have PRA approval, as per Regulation 42 of The Solvency 2 Regulations 2015.[2]https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/supervisory-statement/2018/ss818.pdf

    How is the matching adjustment calculated?

    In order to calculate the matching adjustment for a portfolio, firms must determine the fundamental spread to be used in the calculation.  [3]https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/supervisory-statement/2018/ss818.pdf

    Matching adjustment allows life insurers that hold long term assets to maturity to lower their capital requirements.

    The reduction takes credit for the component in the yield that is illiquidity risk premium, as the insurer is holding to maturity.

    The risk is.. will the insurer become a forced seller.  How could this happen?

    Interestingly i understand that equity release mortgages can be or have been used as an asset used to match long term liabilities and used for the purpose of the matching adjustment.

     

     

     

    Modelling the Matching Adjustment

     

    Supervisory Statement that sets out the Prudential Regulation Authority’s expectations re: application of the Solvency II matching adjustment (MA) within the calculation of the SCR.  so does the matching adjustment not affect technical provisions then ?  I think the matchning adjustment main purpose is for the technical provisions... and that the supervisory statement is for detailing allowance in the SCR.

     

    • Modelling matching adjustment in SCR calculation
    • One year stress on matching adjustment
    • Compliance in stress conditions
    • Validation of matching adjustment

     

     

     

    Equity Release Loans as Matching Adjustment Asset

    Expected Value Test (EVT test)

    • determine whether insurers taking too large matching adjustment
    • deferment rate
      • related to real interest rates
    • volatility parameters

     

    Restructured Equity Release Mortgages (ERMs)

    • special purpose vehicles
    • flexible advances

     

    Validate internal model Solvency Capital Requirement to ensure amount in Matching Adjustment Stress is not overstated.

     

     

    References

    References
    1, 2, 3 https://www.bankofengland.co.uk/-/media/boe/files/prudential-regulation/supervisory-statement/2018/ss818.pdf