Restructured direct investments typically have neither market prices nor external ratings. An appropriate Matching Adjustment therefore depends on an insurer’s own valuations and internal ratings. We will verify that internal ratings capture the full range of risks. They should not have a persistent bias compared to those from regulated External Credit Assessment Institutions (ECAIs). Yesterday we published 6  Supervisory Statement 3/17 . It sets out how we will seek to obtain assurance on the exposures which present the greatest risk to our objectives. It also explains how we may use independent reviews to obtain an opinion on insurers’ internal ratings of those assets. Second, we will review whether insurers have the appropriate governance and risk management to make and hold illiquid, direct investments. This includes expertise across all three lines of defence. For example, where internal ratings reflect in part what actions the insurer would take to recover value if the asset became distressed, that insurer should have appropriate credit work-out capabilities. Third, we will consider whether insurers’ capital requirements properly reflect the risks to which they are exposed when holding illiquid direct investments in a Matching Adjustment portfolio. In particular, Solvency II internal models should capture effectively all the risks in a 1-in-200 stress. We are currently doing thematic work on ‘the Matching Adjustment in stress’ that will influence our future thinking in this area. Risk concentrations  A broader concern is that the search for yield on Solvency II capital could lead insurers to take excessively concentrated risks.

Across the market, reserve releases continue to run at high levels by historical standards.   Insurers may be underestimating risks, particularly on new business. For example, they may be too sanguine about catastrophe risks, such as significant weather events.   Terms and conditions are loosening.   Insurers may be tempted to expand into new lines of business with apparently more attractive returns. But these may fall outside their knowledge and expertise. Over the course of 2017, we will carry out a number of supervisory initiatives to deepen our understanding of how individual insurers are being affected by these conditions. Our overall expectation remains that firms (and their Boards) are the first line of defence and accountable for the risks written on their balance sheets, regardless of distribution channel used. Where insurers participate in delegated underwriting arrangements, we will expect them to retain the ability to understand the impact of business written through these channels on their overall risk profile. Our specific work this year includes:   Reviews of underwriting and exposure management for selected lines of business at a number of large London Market insurers. In the course of these, we will seek to understand how changes in terms and conditions are carried through to planning, reserving and capital assessment. Where these insurers delegate aspects of underwriting through broker facilities, managing general agents or other arrangements, we will also assess whether they have sufficient information and control to manage their risks effectively.