Standard & Poor’s financial strength ratings still relevant under Solvency II

Increased regulatory scrutiny associated with the Solvency II regime will not make Standard & Poor’s financial strength ratings (FSR) obsolete, S&P’s maintains.
In Interpreting Insurer Financial Strength Ratings in Light of Improving Insurer Supervision, S&P’s addresses frequently asked questions about its FSRs on insurers — particularly as the modernization of insurer supervision gains pace.
One such question is whether or not its FSR will become an obsolete measure once Solvency II is adopted.
Under Solvency II, policyholders will be able to monitor the extent to which insurers cover their (risk-based) solvency capital requirements (SCR).
These measures will be important and add relevant input to S&P’s assessment of insurers’ capital adequacy, but they do have limitations, the ratings agency says.
These limitations include:
•    Public SCR will not be real time, but rather a “backward looking” measure published some months after the insurer’s financial year-end. S&P’s ratings, in contrast, are current, based on all the public and confidential information available at the time and involve an ongoing dialogue with management.
•    The SCR is a point-in-time measure of capital adequacy. “In our opinion, historic capital adequacy is a poor lead indicator of insurer failure,” S&P’s said. “We believe categories such as competitive position, ERM, management/corporate strategy, financial flexibility and operating performance are better leading indicators of long-term financial strength.”
•    The SCR will be based on a model — the standardized model, the insurer’s own internal model or combinations — with all the associated potential limitations of any model, S&P’s said.