How To Minimize the Risk of Another Frankel Situation Risk-Focused Regulatory Approach

1. How To Minimize the Risk of Another Frankel Situation Risk-Focused Regulatory Approach Mike Moriarty - NY Insurance Dept. CAS Spring Seminar 5/8/01

2. Frankel • A Breakdown in Then-Existing Processes • Situation Highlighted Certain Areas in the State Regulatory System that Warranted Enhancement • Event that Forces Evaluation of the Regulatory Paradigm • Proposed Initiatives in the NY Environment Are Not Driven by Frankel

3. Mid/Late 90’s • Financial Markets Changing • Blurring of Lines Between Financial Service Industries • Financial Services Becoming Global Enterprises • In US, the Integration of Financial Services Codified by GLBA • Internally, NYID Stepped Back - Is Our Regulatory Approach Still Valid?

4. New York Initiatives • Risk-Focused Examinations • Establishment of Capital Markets Bureau • Liquidity Analysis (Circular Letter #35 - 1999 & #33 -2000) • Derivative Use Plans • 4th Quarter Meetings • Operational Reviews of Insurers

5. New York Initiatives (cont’d) • Increased NAIC Involvement • Heightened Department-Wide Reaction to Risk Events • Training and Off-Site Seminars • Internet/Intranet to Enhance Examinations and Examiner Knowledge

6. CAPITAL MARKETS BUREAU • Assist in the regulation of capital markets & risk management activities of New York licensed insurers • Capital Markets Risk - the potential for loss on investment instruments or portfolios. • Risk Management - an insurer that manages its risk poorly will be a greater financial solvency threat than an insurer that manages its risk better.

7. Capital Markets Bureau - Services • Examination Support • Transaction Review • Derivatives • ALM • Training

8. Capital Markets Bureau - Services • Financial Analytics • Third Party Investment Management • Securitization • Information Dissemination • Research

9. Risk-Focused Examinations • NY Is Moving Away From Triennial Full Scope Exams • Using Risk-Focused (Limited Scope) Exams in Growing #’s • Obvious Reason - Dedicate Limited Resources in the Most Effective Manner • Other Reasons • GLBA • Federal Regulation • Recent BIS Proposal

10. Gradual Movement • No Radical Change in Process • Looking at Areas that we did not focus on before (ALM, Independent Risk Management Units, Internal Audits) • Committees at NY Dept. Meet Frequently and Changes are Continually Made to Procedures

11. Gradual Movement • Report is Still Balance-Sheet Oriented But is Being Supplemented • More “Movement” Under Consideration • Moving Further Away from Balance Sheet Verification and More Toward Risk Assessment • Generation of an Internal Report from Exam Process

12. EFFECT ON A FRANKEL-LIKE SCENARIO • Capital Markets Bureau Would Have Participated in Financial Analysis and in Exam Pre-Planning • “Turnover” Ratios Would Have Spit Out Frankel Insurers as Extreme Outliers • Investment Strategy Would Have Been Questioned on a Prospective Basis • Risk Management Systems Would Have Been Reviewed • “Audit Risk” Would Have Been Evaluated

13. NAIC Financial Reporting WG • “Branding” Risk Classifications • Review How Existing Processes Provide for the Assessment of these Risks • Make Recommendations to Enhance the Examination/Analysis Process Along These Lines

14. CONCLUSIONS • Basic Evaluation of Investment Management Practices Would Have Uncovered Fraud • Assessment of Risk Management Should Be Institutionalized in Regulatory Practices • Financial Services Industries Will Continue to Drive the Development of Risk Management • Regulatory Focus will Follow that Development, as it has in Banking Regulation