Manulife head office in Toronto
Canada's financial regulator has ordered the country's life insurers to conduct their most stringent tests ever to measure risks from stock markets and interest rates, a sign that the watchdog continues to worry about the sector.
This new round of so-called stress tests is many times more detailed than the last round. And this time, the industry is fighting back.
Stress testing, which has long been done in Canada, has become a key tool internationally in the toolkits of regulators as they seek ways to prevent another financial crisis and ensure that banks and insurers are robust. The tests are now done annually in Canada. But insurance executives say that this round is markedly different from those of the past, both in scope and complexity.
While the Office of the Superintendent of Financial Institutions and its counterparts around the world have now put in place much of the road map that they have drawn to remove risks in the banking sector, they are still examining many of the key rules for insurers, such as those governing capital levels.
Insurers were pummelled by the financial crisis because of credit losses and the impact the stock market plunge had on their large equity portfolios. Regulators continue to fret about the impact that low interest rates are having on life insurers. As a result, Canada's regulator is keeping a close eye on insurers and has recently been working to beef up its own insurance team.
The 2011 stress tests that OSFI has instructed insurers to carry out are designed to measure what would happen in extremely dire circumstances, such as the failure of a major reinsurer (insurers buy insurance from reinsurers to offset their risks). A major focus of the tests is the potential impact of low interest rates and equity markets.
OSFI, which keeps the testing and its results secret, gave the sector roughly two months to carry out the tests, telling insurers they need to demonstrate that they can react quickly in crises.
But a number of insurers say the tests are too severe, that they require too much information, and that the sector has not been given enough time to conduct them. They suggest that it's not clear why they should spend so much effort and resources on them during what is a typically a very busy time of year for the industry.
"We believe there still is not an industry-wide clear understanding of what OSFI's objectives are in having companies conducting stress testing," the Canadian Life and Health Insurance Association said in a letter to the Office of the Superintendent of Financial Institutions.
The letter went on to suggest that the testing was too rigorous.
"The industry is concerned about the level of the granularity of this request," it said, noting, too, that "the amount of work this year is considerably higher as there are in effect 14 scenarios of balance sheets and MCCSR ratios as compared to two for the 2010 Stress Testing." (An MCCSR ratio, or minimum continuing capital and surplus requirements ratio, is the key measure of a life insurer's capital levels. The industry is being asked to walk through 14 scenarios and determine what would happen to their capital levels or financial cushion).
The letter, dated March 23, also said that if the industry did not get an extension past the deadline of March 31, insurers would be forced to use some approximations.
While an official deadline extension was never communicated to the industry association, OSFI spokesperson Rod Giles confirmed that a life insurance stress testing exercise is under way, and that "some firms have advised us this may take a little longer than expected to complete as the timing does not fit with those firms' normal planning cycle.
"The very short extension for certain firms is deemed acceptable to OSFI."
Frank Swedlove, the head of the CLHIA, said in an interview that "stress testing is very much an international regulatory standard, something that regulators are doing worldwide, and we think that that's fully appropriate that that be done.
"We think it's advantageous that the regulator works with industry to do the best stress testing possible, that give the regulator the sense of the impact of various scenarios on companies. …We think that there should be consultation with the industry to ensure that it's done in the best way and the most appropriate way possible."
While the banking sector is well along in its recovery, the impact of the crisis continues to be felt in the insurance sector, which struggles when interest rates are low.
Manulife Financial Corp., the country's largest insurer, lost $391-million in 2010, although it was battered more than most of its peers because it had not hedged a large stock portfolio backing its variable-annuity business prior to the crisis. Manulife's MCCSR ratio rose 15 points in the latest quarter to 249 per cent as insurers continue to preserve capital.
Neither Manulife nor rival Sun Life Financial Corp. would comment.