Peter Kohlhagen, Senior Manager, Policy Development - Actuaries Institute: Insights, Sydney
Good afternoon everyone. It’s a pleasure to be here again on this topic at an Insights session, following on from Ian Laughlin in 2015, and Stuart Bingham, Adrian Rees and I last year. My thanks go to the organisers for putting together this event.
We’re excited to have launched this next phase of consultation on our review of the role of the Appointed Actuary, and we’re looking forward to the opportunity to engage with our stakeholders on these important proposals. There will be plenty of time for questions and answers at the end of the session, but we don’t pretend to have all the answers on this so your comments and thoughts will be very welcome as well.
The key theme of my remarks is that there is more work needed to put the role of the Appointed Actuary on a sustainable footing across all sectors of the insurance industry, and we all have a role to play. APRA has taken some important steps, and now it is important that we all work together to maintain that momentum.
I want to start by acknowledging the important role of the Actuary in safeguarding the financial soundness of the insurer and the interests of its policyholders. As a prudential regulator, APRA values the role and relies on the skill, expertise and judgment of Appointed Actuaries.
It remains appropriate that the role is enshrined in the legislation under which APRA and the insurance industry operates. While I’ll touch on some of the challenges and issues that have been experienced with the role, it is important not to lose sight of this bigger picture context – at a fundamental level, the statutory role of the Appointed Actuary has served industry and APRA well over the journey. The changes we’re proposing build on this sound base and set the role up for the future.
Indeed the Life Appointed Actuary Taskforce of the Institute noted in its report on the role in 2015 that:
“Given the current environment of Australian life insurance, the need for the Appointed Actuary role has if anything increased not reduced. All stakeholders should be looking to support the Appointed Actuary role and provide it greater capacity to provide valuable advice, rather than down playing the role and the need.”
Those sentiments continue to ring true today, perhaps more strongly than ever. Risks and challenges confront the life insurance industry and insurers more broadly; both current risks that insurers and actuaries have traditionally been concerned about, but also a range of emerging risks arising from new sources. Change is inevitable, and seems to happen faster than ever before. In that environment, the role of the Appointed Actuary in supporting the resilience of insurers is critical. It is in that spirit that the proposals in the Discussion Paper and Response Paper are intended.
Background to the APRA review
Given my comments on the importance of the role of the Actuary, you can appreciate why APRA was concerned about some of the trends we had observed in the life insurance industry. Going back a few years, APRA had observed:
increasing turnover of Appointed Actuaries;
decreased average tenure in the role;
difficulty recruiting candidates to fill vacancies; and
decreasing levels of seniority, as the Appointed Actuary role was moved lower down the organisational structure in some cases.
This came against the backdrop of a very challenging external environment for the industry, with concerns regarding group business in particular that have been well documented in other places. This is an uncomfortable position for the prudential regulator to find itself in and it was pretty clear to us that something had to change.
So naturally enough, Ian Laughlin, APRA insurance member at the time, sought to raise these concerns with the industry. Ian put the challenge to industry to respond to APRA’s concerns. But perhaps somewhat unusually, industry - with current APRA insurance member and then FSC Life Board Committee member Geoff Summerhayes at the forefront - put the challenge straight back onto APRA. Their observation was that APRA’s own prudential framework was contributing to the concerns that we had raised. And both the FSC and the Actuaries Institute provided detailed and thoughtful submissions to APRA to support those observations and, importantly, they proposed some solutions.
As is often the case with these types of issues, the causes are multifaceted. All of us need to work together – APRA, insurers, actuaries, the actuarial profession – to achieve genuine change and put the role on a sustainable footing. I’ll reflect further on the next steps with that in mind towards the end of my remarks.
As I noted at the outset, the impetus for this work came initially from the life insurance industry. But we don’t see the underlying drivers as being somehow unique to that sector. Across all of the insurance industries, the fundamental role of the Appointed Actuary is very similar, and APRA’s aspirations for the role are also well aligned. We think that the changes we’re proposing to make can contribute to ensuring that the role is on a sustainable footing and remains sustainable into the future. That said, we do recognise that the issues are different across the insurance industries, and the implications and impact of the proposals will vary accordingly.
How does the review fit with the APRA mandate?
The APRA mandate provides the lens through which we think about our role. The mandate is centred on the importance of the stability of the financial system and financial safety – in simple terms, making sure that financial institutions like insurers are able to meet the financial promises they have made to their beneficiaries. These primary objectives are balanced with considerations of efficiency, competition, contestability and competitive neutrality.
Firstly, and consistent with my comments above about the importance of the Appointed Actuary role in supporting prudential soundness, we expect that the package of proposals we’re consulting on will have a positive impact on financial safety. It stands to reason that allowing for better focus by the Appointed Actuary on the key decisions that impact the financial condition of the insurer and the interests of its policyholders would improve prudential outcomes.
An important driver of this work has also been to support enhanced efficiency in the prudential framework for actuarial advice. Streamlining and simplifying requirements, removing unnecessary compliance obligations, properly recognising materiality, allowing increased flexibility – all these steps can be expected to materially enhance efficiency.
Update on the process
With that background out of the way, let’s spend a few minutes talking about the process we’ve adopted for the review. As you may recall, we adopted a two phased approach:
a Discussion Paper released in June 2016 which made a series of proposals at the principles level; and
a further round of consultation on the detail of draft prudential standards and draft guidance which was launched just a few weeks ago.
It is worth noting in particular how private health insurance fits into the review. When we released the Discussion Paper in June last year, we addressed it specifically to life insurers and general insurers, but we noted that we would consider how the principles might also be relevant to private health insurers and would consult on that question in due course. We also flagged the review in our letter to industry on the private health insurance policy roadmap as part of Phase 1. So for private health insurers, the release of the Response Paper a few weeks ago marks the start of the first formal consultation with the private health insurance industry. There is a dedicated chapter in the Response Paper, addressed specifically to private health insurers. We welcome feedback on both the principles and the detailed drafting.
Overall, the feedback received in response to the Discussion Paper was positive, and supportive of the proposed direction. Given the extensive engagement with industry and the profession in the formative stages of this project that’s probably unsurprising, but it was still good to see. We got a wide range of submissions – 26 in total – with a lot of thought provoking and useful feedback. I’ll talk a bit more about some of the main themes and our response later in the presentation. But I would like to thank everyone for their contribution. We all have a stake in this and so it’s important that we keep the discussion going.
What hasn’t changed?
I’ll talk in detail about what we’re proposing to change in a minute, but first it’s worth noting some of the things that aren’t changing:
Firstly, the role will continue to be enshrined in each of the industry Acts, with the important responsibilities and protections that come with that.
Secondly, we aren’t proposing to grant Actuaries a whole raft of new powers (apologies if some of the recent media reporting on the proposals got your hopes up in that regard).
Finally, the key components of the role, such as access to the Board, preparation of the FCR and advice on key matters such as the valuation of insurance liabilities continue under the revised framework.
The proposals should be seen as an evolution not a revolution, building as I said on an already sound base.
What’s new at a glance?
So what’s new at a glance?
a new purpose statement for the role of the Appointed Actuary – setting out key principles and attributes to guide the role and the relationship between the role and Board and senior management;
the actuarial advice framework – allowing flexibility for insurers and actuaries to design a framework for obtaining actuarial advice that suits their business;
a new emphasis on managing conflicts of interest or duty that can arise in the work of the Appointed Actuary, with significant flexibility for insurers to decide how to managing such conflicts under the actuarial advice framework;
improvements and simplifications of the reporting obligations of the Appointed Actuary; and
simplification and harmonisation of the applicable prudential standards, where appropriate having regard to the differing structures of each industry.
The purpose statement for the Appointed Actuary role
I’ll now turn to each of these changes in a bit more detail, starting with the purpose statement. The purpose statement is intended to outline a vision or aspiration for the role of the Appointed Actuary. What is it we are trying to achieve? Are we getting closer to or further away from our vision? How does this specific change we’re proposing align with these aspirations?
Overall, our aspiration for the role is that the Appointed Actuary is able to effectively influence, and challenge where necessary, the major decisions impacting the insurer. It is not a purely technical, actuarial role, although technical capability is clearly an important part of it. And it is not a compliance-oriented role, although there are compliance obligations on the Appointed Actuary. The role is a trusted strategic advisor to the Board and senior management of the insurer on areas within the Actuary’s specialised skills and expertise.
One question we hear frequently is whether APRA thinks the Appointed Actuary should be internal or external to the insurer. Is the purpose statement intended to imply that one of these approaches is preferred by APRA? We see plenty of examples of both structures working effectively and we don’t have a preference for one model over the other.
We also received a number of submissions on the question of the reporting line for the Appointed Actuary – should APRA mandate that the Actuary report directly to the CEO? Submissions argued for both sides. As with the question of internal vs external Actuaries, APRA sees examples of both structures working effectively and we weren’t persuaded that it was appropriate to be prescriptive on this point. For us, the key question is does the positioning of the Actuary in the organisation supports their ability to live up to the aspirations in the purpose statement? Do they have unfettered access to the Board and to senior management? Are their views taken seriously? Are any conflicts being managed appropriate? These are the kinds of questions we’d expect Boards, senior management and Actuaries to grapple with in determining their approach.
The proposed actuarial advice framework
Turning now to the actuarial advice framework proposals that are a key component of the reforms proposed by APRA. The intention behind the framework is to provide significantly more flexibility for insurers and Actuaries to work together to agree an approach to obtaining that actuarial advice that suits their business and generates the most value; an approach that meets prudential safeguards, but reflects the diversity of structures, business models, resource levels, products and industry circumstances of individual insurers. The framework explicitly recognises that insurers operate with a range of structures for their actuarial teams, and that advice can be sourced from actuaries other than the Appointed Actuary.
It is worth noting that while many types of actuarial advice can be provided by actuaries other than the Appointed Actuary, there are some types of advice under the Acts and the prudential standards that must continue to be provided personally by the Appointed Actuary regardless of materiality. In the prudential framework, these are expressed as being obligations of the Appointed Actuary, as opposed to obligations to obtain actuarial advice.
APRA has consciously specified that the framework is owned by the Board. We think that is appropriate. But the Actuary has a critical role to play in its development, and we’ve recognised that by mandating that the Board consider advice from the Actuary prior to approving the framework and whenever it’s materially changed. In practice, we see framework development taking place in an iterative way between the insurer and the Actuary, with the Actuary noting any concerns they have with the framework in the FCR.
We are not proposing to be prescriptive about the ongoing review of the framework, but we expect that it will be reviewed regularly and have regard to material changes in the insurer. And we will definitely expect to see it reviewed if the Actuary raises concerns about its operations in the FCR, to make sure that the feedback loop between the Actuary and the insurer in relation to the framework is operating as intended.
Importantly, the framework will include a materiality policy – both to set a clear expectation that actuarial advice is not necessary on matters that are immaterial, but also to ensure the ongoing involvement of the Appointed Actuary in the matters that are most material to the financial condition of the insurer and the interests of its policyholders.
Stakeholders have raised with APRA the value they place on the current notifiable circumstances regime used by private health insurers. From APRA’s perspective, we recognise that regime is working effectively and have explicitly recognised that it is one way of designing an advice framework that meets the requirements of the standard. We are very interested in the views of PHI stakeholders on whether having other options in addition to the notifiable circumstances regime is of value to them.
Managing conflicts of interest
APRA notes that conflicts of interest can arise in the operation of the advice framework, and in the responsibilities of the Appointed Actuary. In essence, are there times when a person is expected to review and challenge their own work? As with any conflicts, conflicts in the advice framework need to be identified and appropriately managed. There are a range of ways that this can be accomplished, and we have offered some thoughts on this in the guidance we’ve released.
Whenever APRA raises the question of conflicts of interest, the question of dual hatting between the Chief Risk Officer and the Appointed Actuary is always raised. And indeed we received a range of submissions on this point in response to the Discussion Paper. In short, nothing we heard has lead us to change our view that the conflicts that arise are unmanageable. In the three lines of defence, the CRO is very clearly a second line role, with clear rules designed to ensure separation from first line responsibilities. The Appointed Actuary does work that spans across the lines of defence, and in APRA’s view that work is both important and appropriate and so we have not proposed to mandate that the role of the Actuary be confined to one of the lines of defence. But the implication of that is that it is not possible to dual hat the CRO and Appointed Actuary roles without unmanageable conflicts arising.
APRA’s Discussion Paper included a set of proposals designed to streamline the reporting requirements of the Appointed Actuary.
On the FCR, the key point we wanted to make sure was clear was the discretion of the Appointed Actuary to focus on the material and relevant matters. We don’t want a tick-box approach of considering a set list of matters specified in a prudential standard. The value of the FCR is the clear communication of key matters about the financial condition of the insurer to the Board, and to APRA.
We have stepped back somewhat on our expectations of coverage of the Internal Capital Adequacy Assessment Process and risk management framework in the FCR. APRA has received feedback from actuaries for some time that the policy settings weren’t quite right in this regard. So while we do still expect that the FCR will include some commentary on risk management and capital management – we don’t think the FCR can be a comprehensive review of the financial condition without that – we don’t expect the Actuary to perform a formal assessment.
In the Discussion Paper, APRA consulted on two main changes to the current Insurance Liability Valuation Report, or ILVR:
to remove the requirement that the ILVR be submitted to the Board in every case, to better reflect the different roles of the Board and the senior management of an insurer; and
to extend the concept of the ILVR to the life insurance industry, as a formalisation of existing practice and to ensure appropriate documentation and transparency of the underlying processes.
In the Response Paper and draft standards, you’ll see a few refinements to that position:
For life insurers, the expectation is that the report would cover not only the liability valuation, but also the determination of the capital base and prescribed capital amount, given the extent of discretion inherent in the determination of the adjusted policy liabilities and insurance risk charge in particular;
Which leads us to perhaps the most visible change, the renaming of the report to the Actuarial Valuation Report or AVR – if it also covers capital issues, it seemed a bit of a misnomer to continue to refer to it at the Insurance Liability Valuation Report. We went through a few potential titles looking for something catchy with a good acronym. The Actuarial Valuation Report was the best we came up with so we’ve run with that. But maybe someone will come up with something better and suggest it in their submission.
Finally on this topic, we aren’t proposing to mandate an AVR for private health insurers. We weren’t convinced that there was enough value there to justify that, given the nature of the business. We have though noted our expectation that the key methodologies and assumptions underpinning the valuation and the determination of capital are appropriately documented.
Simplified prudential standards
One of the objectives APRA set itself for this review was to drive some improved consistency in the drafting of the prudential framework across the insurance industries. For a range of reasons, most historical, the current standards deal with the same concept in very different ways depending on the particular industry. While there are industry-specific details in some areas, and in many cases there are good reasons why these should remain, fundamentally much of what is required is consistent across the industries. And so we think that consistency is preferred and should benefit actuaries that operate in multiple insurance sectors and insurers that operate as part of broader groups.
In the response package, you’ll see that we’re proposing a single cross-industry standard on actuarial matters, supported by a cross-industry practice guide. These documents deal with common concepts consistently across industries. There is no doubt that developing the cross-industry standard was challenging. But we think the exercise has driven significant improvements in the standards. We look forward to seeing feedback in submissions on whether you agree.
Temporary Appointed Actuaries
Finally before talking about the next steps, just a few words on temporary Appointed Actuaries, as the concept has caused some confusion and accounted for a disproportionate level of concern. APRA is aware of the challenges that can arise for Appointed Actuaries and insurers if the Actuary is temporarily absent (perhaps due to leave or incapacity). For some time, APRA has spoken with actuaries about a workaround that can be used in these circumstances. In essence, a simplified process can be used to replace the incumbent with another Actuary, with streamlined notifications to APRA. This process has been codified in the practice guide. It is offered with the intention of helping actuaries and insurers, and is not intended to add new obligations or burden. We hope that it proves of assistance.
So where to from here? In terms of the APRA process, the consultation period is open until 15 December this year and we’re looking forward to receiving another round of submissions. We are of course always happy to meet people and talk about the proposals – as I said, we all have a stake in this and it’s important to get it right.
We will then look to finalise the standards in the first half of next year and set an effective date taking into account the need for appropriate transition time.
In a broader sense, the next steps involve all of us. I quoted at the outset from the report of the Life Appointed Actuary Task Force, about the value of the Appointed Actuary role and the importance of working together to support it. The media release accompanying the response package quoted Geoff expressing similar sentiments:
“These proposals are a significant step forward in putting the role on a sustainable footing and ensuring that Appointed Actuaries are able to make their important prudential contribution. There is more that can and should be done by insurers and the actuarial profession to fully address the underlying causes of the issues observed by APRA.”
Geoff’s quote points to an important part of the way forward. The causes of the problems identified by APRA and other stakeholders at the outset of this process were multifaceted. APRA heard the challenge to address issues in the prudential framework, and standing here today we think we’ve reached an appropriate package of reforms to do that. But the issues were not and are not purely in the APRA sphere. There is important work left to be done to carry forward the momentum that has been generated:
insurers and their Boards need to reflect on the way they use their Appointed Actuary, how the Actuary is positioned in their organisation and the resourcing in their actuarial team. And importantly, consider ways to ensure that the Appointed Actuary in their business is supported in fulfilling the aspirations outlined in the purpose statement;
Appointed Actuaries also need to engage with the opportunity afforded by these changes, and think deeply about how the role in their organisation aligns with the aspirations of the purpose statement;
the profession more generally needs to consider whether there are parts of the professional standards that could be usefully reviewed, and also think about whether the education and pathways for actuaries prepare people adequately for the role.
So a challenge from APRA: the easiest thing to do in response to these changes would be to just document the status quo and move on with life, but if that happens nothing will have been accomplished and the opportunity to put the role on a more sustainable footing will have been lost. Worse than that, we could end up with a continuation of the same issues and outcomes we’ve seen in the past but have an added layer of documentation that doesn’t add value. There is a need for everyone involved to think deeply and challenge the status quo. Use the flexibility to design a framework that adds value to the business and is worthy of the aspirations documented in the purpose statement.
Thanks for listening, and I look forward to hearing your questions and comments.