The National Association of Insurance Commissioners (NAIC) is推进 the reform of the Generator of Economic Scenarios (GOES) used in principle-based reserving (PBR) in the United States. The second industry field test, supported by model office results, focuses on understanding the potential impacts of the new scenarios on VM-21 reserves and C-3 Phase II capital for variable annuities (VAs).
Comparing AIRG and GEMS Scenarios:
- The AIRG and GEMS scenarios were calibrated based on a wide range of acceptance criteria.
- Key differences include higher blended equity returns volatility in GEMS, more sophisticated corporate model in GEMS leading to higher bond returns volatility, wider distribution of projected rate scenarios in GEMS, and different curve inversion frequencies.
Impact Analysis:
- The valuation model used assumes a $10 billion cash surrender value (CSV) in-force book.
- On an unhedged basis, GEMS scenarios produce materially higher total asset requirement (TAR) than AIRG (+$275 million for the modeled business).
- With an effective hedge strategy, the difference between GEMS and AIRG scenarios is significantly reduced, but TAR still increases by +$28 million (+290% increase in TAR).
- GEMS produces a consistently higher requirement by scenario, but this increase is compressed on a hedged basis.
- GEMS has more scenarios (39) producing a requirement above the CSV floor compared to AIRG (19).
- Shifting from unhedged to hedged results reduces the dispersion by scenario, leading to a remarkably close pattern of results between GEMS and AIRG.
Market Sensitivities:
- The analysis evaluates the level of TAR at risk in adverse shocks and approximate hedging Greeks.
- GEMS results in a larger increase in TAR, more pronounced on an unhedged basis.
- Equity sensitivity is similar between AIRG and GEMS, but GEMS result is driven by higher rate sensitivity.
- Post-hedge TAR sensitivity is more adverse, primarily due to increased interest rate sensitivity.
- Unfloored CTE70 sensitivities show that GEMS scenarios exhibit significantly more convexity and rate sensitivity on an unhedged basis.
- On a hedged basis, all Greeks converge, with AIRG and GEMS Greeks being within 3% of each other.
- Hedged CTE70 equity Greeks are lower than unhedged, whereas rho is significantly higher.
Future Hedge Strategy Methodology:
- Vega hedging with an implicit hedge approach: Modifying the implicit hedge method to reflect a cost of hedging that varies by scenario, depending on the scenario’s respective 10-year realized volatility.
- Base contract hedging: Exploring a future hedging strategy that includes the base contract cash flows.
- Increasing the hedge ratio on the base contract converges TAR under AIRG and GEMS scenarios.
- Fully hedging base contract cash flows increases the starting TAR level but reduces the impact of scenario differences.
Conclusion:
- The impact analysis highlights common themes that companies might expect from the proposed GOES scenarios.
- An increase in reserves and capital, significantly reduced if an effective future hedge strategy is reflected in the CTE calculation.
- Similar equity sensitivity, but increased rate sensitivity with GEMS scenarios.
- Less exposure to the GEMS scenario impact if the future hedge strategy supports a full vega hedge or includes base contract cash flows in the hedge target.
- Companies should evaluate the implications of the new scenarios on their required levels of reserves and capital, market shock sensitivities, and other key metrics and risk management practices.
- Detailed analyses will help companies prepare for the new GOES model once the NAIC finalizes implementation parameterization and timing.
