Actuarial/IT Alignment Critical to Meet Heightened Business Demands... According to Ernst & Young Actuarial Transformation(TM) Roundtable Report.

-- Insurers Rethinking People, Processes and Technology --

NEW YORK -- The Insurance and Actuarial Advisory Services (IAAS) practice of Ernst & Young LLP today announced highlights from its recent Actuarial Transformation(TM) Roundtable in a report discussing the people, process and technology issues surrounding critical financial modeling, valuation and risk measurement initiatives

The group, which brought together senior actuaries and IT professionals, focused on ways to better align the two departments in order to meet the heightened business/management demands created by competition as well as increasingly complex products, extensive Sarbanes-Oxley (SOX) compliance requirements, the shift from rules-based to principles-based valuation and the growing volume of data in general that must be integrated and managed.

It was agreed that the actuarial department has vast computing needs and a heavy reliance on actuarial modeling, valuation and supporting technology. Stochastic modeling requirements for financial reporting, pricing and risk management are causing a growing desire to benefit from the move towards high performance computing. This, coupled with the need to pull actuarial executives out of the data preparation and calculation mire so they can focus on financial analysis and business decision support, is creating a significant push towards greater actuarial/IT alignment.

Alignment Hurdles

To date, there have been numerous challenges to effective teaming between the actuarial and IT departments - including difficulties with communication, competing priorities and a blurring of the boundaries around the role each department should take on actuarial valuation, modeling and risk measurement processes. Actuarial participants stressed the tension that exists around the flexibility required to make changes quickly and the need to maximize the advantages of more structured IT development and change management approaches.

The group agreed IT professionals often have a limited knowledge of the actuarial function and the learning curve required to understand the actuarial needs is significant. However, from a career perspective the participants suggested there could be negative implications if an IT executive becomes pigeonholed in an actuarial technology role.

New Roles Needed to Bridge the Gap

Organizational structure was discussed as an important part of creating an effective way for the actuarial and IT teams to work together. While there was no clear consensus as to the optimal approach, both actuarial and IT executives alike agreed that establishing an appropriate "bridge" between the two functional areas was essential. Strong communication, and the setting of expectations and performance goals were pointed out as a move in the right direction.

One suggestion which received positive feedback from the group was creating a "model steward" position with the role of introducing standards for model coding and ensuring the use of a common language through the management of models, assumptions, testing and validation. New roles such as model stewards and others will allow the two groups to work together more effectively by managing and mitigating the impact of the struggles around model control, inter-departmental politics, difference in preferred tools and the language barrier created by technical terminology.

"There needs to be a balance between pure IT knowledge and finance/actuarial knowledge for an integration to be successful," says Steve Goren of Ernst & Young's IAAS practice. "In an ideal world, the actuarial department would like to work with IT people who have a strong understanding of their business objectives and an interest in actuarial science. Conversely, IT executives would like to see the actuarial department be more open to learning how the proper use of mainstream technologies and IT protocols could fundamentally transform their actuarial processes. Companies are looking to bridge this gap by identifying and empowering a team of leaders that understand the core strengths of each discipline."

Model and System Development Lifecycle... Crucial Building Block for Success

Insurance companies today are investing tremendous resources in building and maintaining actuarial models, but the group agreed that few companies are getting the functionality, decision support, quality or productivity that they should.

A survey of participants was conducted during the roundtable to better understand current model and system development activities within the actuarial department. While the majority of actuarial participants (63%) are aware of a standard IT software development lifecycle, only 12% say their model development and maintenance protocols closely adhere to this methodology.

Additionally, none of the participants would classify the current model development lifecycle in their organization as "highly effective" and only 18% say it is "effective". However, they are looking to improve on this situation with over two-thirds (69%) expecting to make their model development lifecycle effective at a minimum within the next two years.

In the past, modeling was not viewed as a regular production process and the group pointed to a significant shift in this thinking as today's business landscape requires strong financial modeling capabilities with relatively frequent model updates and accelerated cycle times. As a result, more structured development lifecycles and change control protocols are expected going forward.

By following more structured protocols for modeling, the actuarial department can benefit from the best practices of the IT community which have been proven to enhance quality and functionality and reduce the total cost of ownership. With the right approach, the group suggested it can be a win-win situation, improving modeling capabilities by offering the needed structure and control while allowing for the flexibility required by actuaries. However, these benefits can only be realized when the actuarial and IT departments work closely together.

Model Validation and Audits... Best Practices Elusive

There was a consensus among the participants that actuarial models are becoming an increasingly important ingredient in the financial reporting and risk management processes which creates a growing need to ensure that they are appropriately validated. Despite this imperative, an observation was made that the modeling environments are often not designed to meet reporting, analysis and model validation needs.

Participants are currently using various static and dynamic model validation procedures under deterministic scenarios and while the vast majority (93%) says they are "satisfied" with the results of their validation efforts, none would categorize themselves as "extremely satisfied". At the same time, half of the participants (50%) were less than satisfied with their model validation process. They expressed concerns that there are no accepted best practices and that validation is often done at too high a level, making it difficult to drill down and identify issues or problems.

Regarding model audits, the group pointed to a heightened level of review activity with SOX 404 requirements and regulatory guidelines such as C3 Phase II driving the increase. Nearly two-thirds (62%) of companies indicated that they completed some type of formal model audit within the last year and 69% expect to do so within the next year. The vast majority (82%) characterized their model audit process as either "somewhat" or "very" robust. In most cases (70%), the audits were performed by someone other than the group that maintained the model.

While SOX 404 was identified as a driver, it was also considered an obstacle as the group agreed that the actuarial attention it requires prevents them from focusing on making the desired improvements to their modeling and valuation environments and processes.

"Like it or not, we have entered an era where greater actuarial/IT alignment and more structured approaches to model development, maintenance, validation and auditing are necessary," says Mike Hughes of Ernst & Young's IAAS practice. "It is critical for insurers to transform their actuarial valuation and modeling processes to meet the business needs of the 21st century. In order to achieve this goal, companies need to adopt new and more integrated approaches to their people, processes and technology in the actuarial domain."

For a copy of the Ernst & Young Actuarial Transformation(TM) Roundtable report, please contact Deanna Decker at 212-752-8338 or [e-mail].

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About Ernst & Young IAAS

The Insurance and Actuarial Advisory Services (IAAS) practice of Ernst & Young includes 150 professional staff with more than 60 credentialed actuaries throughout the United States and Canada. IAAS delivers actionable business advice to its clients in the life/health and property/casualty insurance industries. It also provides insurance, risk management and claims advisory services to a range of businesses and corporations. IAAS employs financial modeling and other quantitative analysis techniques and technologies to assist clients in making decisions that will improve performance and achieve competitive advantage.