Life Insurance Industry: FSA statement

"On 28 June 2002 the FSA issued revised guidance to the life insurance industry on the stress testing of their portfolios, generally referred to as the resilience test. The resilience test is an important element in the prudential framework, which is designed to protect policyholders, as it helps to determine the appropriate mix in risk assets to the term, size and nature of policyholder liabilities. Recent events in the markets have revealed some problems with the formula which tapers down the stress test from a maximum of 25% to a minimum of 10%. We have been considering for some time possible changes to the resilience test which would take into account recent stock market movements, in anticipation of the new Integrated Prudential Sourcebook that will come into effect in 2004. In the light of market conditions and the problems identified with the resilience test, we considered it appropriate to make this amendment at an earlier stage, such that there would not be market distortions created by the problems that may be inherent in the test."

"Our research among life insurance firms suggests that the significant majority were not close to being sellers of equities at the FTSE 100 level on 28 June of 4540, based purely on the application of the resilience test. Of course some may have been sellers (or buyers) depending on their analysis of the market. Hence the change to the resilience test was not made with any immediate pressure to sell in mind. As we have said, the suspension of the test on 24 September last year was under very different circumstances and we have seen no need to further suspend the test in recent market conditions. Based on stock market movements over the last three months the new test will require firms to stress their equity portfolios as a decline in the FTSE Actuaries All Share of approximately 15% or a 650 point fall. This new test will remain in force, as temporary guidance, until 31 May 2003 when, having consulted, we anticipate that it will become permanent."

"The financial returns of life insurance firms show that their free asset ratios have fallen in each of the last two years. However, as is suggested by my earlier remark on firms resilience to equity price movements, the insurance sector continues to meet the minimum solvency requirements we have set, and this in the light of a 33% fall in equity prices over the past 22 months. This also takes into account guarantees made to policyholders in with-profits funds (which make up the majority of insurance company funds) which of course are not provided by unit-linked products. It is also useful to remember that whilst, of course, changes in asset prices on a day to day basis must be monitored closely, the liabilities of insurance firms are over the longer term."

"Of course these are nervous markets and we continue to monitor closely the impact of market movements on the life insurance industry as a whole and on individual firms."

"Members of the Committee may recall that the FSA is rolling-out its risk-based approach to regulation across all sectors of the financial services market, including insurance. We will perform risk assessments on some 200 insurance firms, being the larger firms in both the life and non-life sectors. These assessments are presently in progress and we will write to firms with our findings and conclusions. A recent report by the rating agency Fitch, that the FSA has 200 insurance firms on its high-risk list is wrong, as the risk assessments have not even been completed. It is true to say that the FSA is engaging in a more intensive relationship with these 200 firms, as this is part of our risk-based approach. We have taken the opportunity during the past 2-3 months to meet with CEOs of the major insurance firms to explain this new approach and the proposed policy reforms in insurance regulation, and to discuss matters of recent interest. We have also written to CEOs of insurance firms to remind them that they should be proactive in the management of their firms financial resources."

Notes for editors

1. The FSA regulates the financial services industry and has four objectives under the Financial Services and Markets Act 2000; maintaining market confidence; promoting public understanding of the financial system; securing the appropriate degree of protection of consumers; and fighting financial crime.

2. The FSA aims to maintain efficient, orderly and clean financial markets and help retail consumers achieve a fair deal.