Fitch Exposure Draft: Assessment of Insurance In-House Capital Models.

NEW YORK & LONDON -- Fitch Ratings today published an enhanced methodology for incorporating a review of an insurer's in-house capital model into its ratings. The agency believes such models can often promote a superior understanding of risks in addition to their quantitative estimation. Such techniques can, if used correctly, improve risk mitigation, allocation of resources, pricing and product design.

'The assessment of companies' own capital models represents an important part of Fitch's overall view of an insurer's capital adequacy within the agency's ratings analysis,' said Keith Buckley, Group Managing Director and Global Head of Insurance at Fitch Ratings. 'Insurers' in-house models can provide important insights into management intent as well as often being relatively sophisticated and highly company specific, especially for large multinationals.'

As published separately in its new exposure draft on capital adequacy today, Fitch considers the companies' own capital model, Fitch's own new capital model, Prism, as well as the impact of regulatory capital requirements. The weighting given to these elements is dynamic and varies according to various factors, including the excess of capital above the regulatory minimum and the degree of comfort that Fitch has with an insurer's own capital model.

'While there are clear advantages to utilizing an individual company's capital model in our analysis, there is currently a lack of consistency between models and some degree of moral hazard for the models where they are not transparent to the outside world. This is especially important because of the increasingly central roles that capital models are playing through capital allocation as well as their increasing influence on regulatory requirements and use in performance measurement,' Buckley added.

In general, Fitch will give a higher weight to the insurer's capital model if it demonstrates a high degree of transparency, proven track record, suitable level of sophistication, appropriate testing and controls over use, and suitable expertise within the company to run and interpret the model. The agency will also be looking for companies to embed the model within an enterprise risk management framework that makes use of the information generated by the capital model. Fitch is likely to give a lower weighting to a model used solely to fulfill regulatory requirements.

Fitch will not approve, endorse or require any particular form of capital model or methodology. The agency's review will be guided by principles requiring that models are suitable for the organisation, robust, and provide a meaningful stress. Of particular interest will be key sensitivities of the model, credit taken for management actions, and changes that are made to the model over time (including changes to the parameterisation of the economic scenario generator ('ESG'), where employed).

Prism, Fitch's global stochastic capital model, provides many key advantages in the agency's approach to determining capital quality. The agency's development of Prism to assess the capital adequacy of insurers has given Fitch a valuable insight into the process of developing a capital model and added to its ability to assess insurers' in-house models. The Prism model will be introduced in stages and further details are available from other documents published with this paper. Fitch will utilize Prism alongside an individual organisation's models as a global benchmark in determining capital adequacy.

Fitch is releasing the first of several exposure drafts for comment, and plans to release Prism to the market in stages. Soon after the close of the consultation period on July 10, 2006 for the methodology reports issued today, Fitch will formally introduce a Beta version of Prism to the marketplace.

Fitch's criteria report 'Exposure Draft: Assessment of Insurers' In-House Economic Capital Models' is available on the agency's website www.fitchratings.com/prism. The agency's report 'Exposure Draft: Insurance Capital Assessment Methodology and Model (Prism) -- Executive Summary' and a more detailed report 'Exposure Draft: Prism -- Insurance Capital Model -- Technical Document' is also available on the same web site.

Fitch's rating definitions and the terms of use of such ratings are available on the agency's public site, www.fitchratings.com. Published ratings, criteria and methodologies are available from this site, at all times. Fitch's code of conduct, confidentiality, conflicts of interest, affiliate firewall, compliance and other relevant policies and procedures are also available from the 'Code of Conduct' section of this site.