Actuarial Opinion Symposium December 3, 2003 SWAF Winter meeting

2. Outline Background Current Requirements Proposed Requirements Points of Discussion Other Questions

3. Opinion Content Content is largely defined by: NAIC instructions AAA Standards of Practice – in particular ASOP #36 CAS Statements of Principle COPLFR (AAA Committee) Practice Note Still substantial room for interpretation

4. Example and Structure of Opinion Four sections Identification : Name of actuary signing opinion Scope : Lists actual reserve amounts and provides information on key items impacting reserves Opinion : Actually states opinion Relevant Comments : Significant types of losses, major risk factors, changes in assumptions/methods

5. Scope Section

6. Scope Section

7. What Kind of Opinion?Differences in Language

8. Who’s Signing Opinions Today?Domestics Only

9. What’s Covered Today? Domestics Only

10. Distribution of Domestics by Surplus Size (in Millions)

11. 2004 Changes Requires identification of person responsible for providing data used in actuarial analysis Moves numbers to Exhibit A – Scope and Exhibit B – Disclosures Greater definition of Actuarial Report Requires auditor to test key data for opinion

12. 2004 Changes -Risk of MAD Requires explicit statement of whether or not actuary reasonably believes there are significant risks and uncertainties that could result in material adverse deviation and why. The explanatory paragraph should not include general, broad statements about risks and uncertainties… nor is the actuary required to include an exhaustive list of all potential sources of risks and uncertainties. Materiality standard disclosed in $US.

13. Actuarial Report Defined Narrative and technical components. Requires exhibit which ties to AS and compares Actuary’s conclusions to carried amounts. Summary exhibit(s) of either the actuary’s best estimate, range of reasonable estimates, or both, that led to the conclusion in the OPINION paragraph regarding the reasonableness of the reserves.

14. Actuarial Report: New Specifications Requires Extended Comments on: Trends that indicate the presence or absence of risks and uncertainties that could result in material adverse deviation Factors that led to unusual IRIS ratios for Reserve tests (10,11,12), and how these factors were addressed in prior and current analyses.

15. Model Law What it Does Creates an Actuarial Report Summary document submitted March 15. Summary contains very basic data on the appointed actuary’s range or point estimate Protects the confidentiality of material in both the Report and the Summary Provides legal protection to the appointed actuary except in cases of fraud or willful misconduct by the actuary

16. Model LawThe Enactment Process Passed Casualty Actuarial Task Force at the NAIC in June 2003 Ratified by parent committees at the NAIC in September Referred to states for legislative action Expected to be requirement for accreditation

17. Model LawActuarial Opinion Summary Required to be Sent only to domiciliary state Other states may request if they can demonstrate they can protect confidentiality Contains Net and Gross point estimate and/or range Company’s Net and Gross Carried Reserve Difference between the Company’s Net and Gross Carried reserves and the Appointed Actuary’s point estimate and/or range Discussion of any persistent adverse development (Schedule P 1 year test adverse by 5% of surplus or more in 3 of the last 5 years)

18. Discussion Points Material adverse deviation and standards for materiality Management’s “best estimate” vs. actuarially-developed point estimate Reasonable range of reserve estimates Types of opinions Regulator vs. IRS vs. Rating Agency perspective

20. Material Adverse Deviation Paragraph ASOP #36 requirement: “When the actuary reasonably believes that there are significant risks and uncertainties that could result in material adverse deviation, the actuary should also include an explanatory paragraph in the statement of actuarial opinion.” CAS VFIC Committee Note on Materiality and ASOP #36: Considerations for the Practicing Actuary (Appendix to P&C Practice Note) --- materiality requires judgments in both quantitative and qualitative terms.

21. What’s Material? SEC (exclusive reliance on quantitative benchmarks is inappropriate) NAIC (the dollar amount above which the examiner’s perspective of the company’s financial position will be influenced) AICPA (matter of professional judgment) Threshold values (rules of thumb) Common Sense (“reasonable person” test)

22. Who’s Commenting on Risk ofMaterial Adverse Deviation (MAD)Domestics Only

23. Material Adverse Deviation and 1st Quarter Development What should a regulator think when 1st Quarter reserve development was over 10% and there was no material adverse deviation discussion in the Opinion? Performance re: 2002 reserves 75 companies report > 10% development 18 had material adverse development discussions 20 didn’t file opinion for 2002 37 had no adverse deviation paragraph. One of these said adverse development was unlikely

24. Who’s Best Estimate? Management’s vs. the Actuary’s Why is there a difference?---management’s responsibility to book its best estimate; actuary makes recommendation to management. What is a reasonable tolerance? What’s a material difference between management’s and the actuary’s evaluation of reserves?

25. What is a Reasonable Range? Ranges often picked judgmentally. May be based on rules of thumb or actuary uses several estimation techniques and uses highest and lowest result as range. Based on assumptions the actuary judges to be reasonable…per ASOP #36. Should ranges rely more on stochastic analysis? Should ranges explicitly consider both process and parameter risk?

26. What is a Reasonable Opinion? Reasonable in the context of what is known/available to the actuary at the time of the report; per ASOP #36, “when the stated amount is within the actuary’s range of reasonable reserve estimates, the actuary should issue a SAO that the stated amount makes a reasonable provision…” ASOP #36 does not require the actuary to disclose the reasonable range in the opinion.

27. Qualified Opinions ASOP #36 definition: “the reserves for certain items are in question because they can not be reasonably estimated.” When does risk of material adverse deviation produce a qualified opinion? If the difference between the high end of a reasonable range and carried reserves is more than surplus, are those reserves reasonably estimable? Is a qualified opinion necessarily bad?

28. Questions for Regulators How can my work product be improved? Are you satisfied with the quality of Actuarial Reports? If not, what is needed to make them better? What is your preferred definition of qualified opinion and what should I do if the definition varies from state to state?

29. Questions for Opinion Writers How can our Instructions be improved? What can we do to improve our partnership role in solvency monitoring? If you were a regulator for a day, what would you do differently and why?

30. Questions from the IRS Have you booked reserves above the actuary’s recommended point estimate? If so, why? Are your published reserves within the actuary’s reasonable range of reserves? How does your analysis tie to Schedule P of the Annual Statement?

31. Questions from Rating Agencies What has been your recent history of adverse/favorable one-year reserve development? What is your reserving philosophy? What risk factors have you considered in booking last year’s reserves? What is your reserve to surplus ratio?

32. Other Questions?