Circular NBB_2017_07 / Requirements for the use of the Duration-Based Equity risk sub-module

NBB_2017_07 – 1 March 2017 Circular – Page 1/4 14 Berlaimont Boulevard – BE-1000 Brussels tel. +32 2 221 38 12 – fax +32 2 221 31 04 company number: 0203.201.340 RPM Brussels www.bnb.be

Circular
Brussels, 1 March 2017
Reference: NBB_2017_07 your contact:
Kajal Vandenput tel. +32 2 221 51 77 – fax +32 2 221 31 04 kajal.vandenput@nbb.be

Requirements for the use of the "Duration-Based Equity risk sub-module" (Duration-Based Equity risk sub-module) in the context of the SCR according to the standard formula and communication of information to the Bank in the context of the approval request

Scope
Belgian insurance and reinsurance undertakings.
Belgian insurance and reinsurance holding companies.
Belgian mixed financial holding companies.

Summary/Objectives
This circular provides information on the Bank's requirements concerning the use of the "Duration-Based Equity risk sub-module" (Duration-Based Equity risk sub-module) in the context of the calculation of the SCR according to the standard formula as well as on the communication of information to the Bank in the context of the approval request, as provided for in Article 162 of the Law of 23 March 2016 on the status and supervision of insurance or reinsurance undertakings.

Structure
I. Context
II. Bank's requirements for the use of the "Duration-Based Equity risk sub-module" (Duration-Based Equity risk sub-module)
III. Bank's evaluation procedure and approval deadlines
IV. Entry into force

Circular – Page 2/4 NBB_2017_07 – 1 March 2017

Madam,
Sir,

I. Context
Directive 2009/138/EC, known as "Solvency II", provides (in its Article 304), as a national option, the use of an SCR sub-module for the duration-based equity risk (Duration-Based Equity risk sub-module - DBE), under certain conditions. The use of this DBE has the consequence that the undertaking can use an SCR equity shock of 22%. The Law of 23 March 2016 provides (in its Article 162) the possibility of using this DBE on the Belgian market, subject to approval by the Bank based on a properly prepared application file.

In the context of the implementation of Solvency II, it is important to improve transparency and provide clarification regarding the information communication requirements and the procedures to be followed for the approval process related to the various measures in accordance with Article 308 bis (phased introduction) of Directive 2009/138/EC. The Bank intends, in this circular, to specify the conditions and criteria for the use of the DBE as well as the transitional measure for the SCR regarding equity risk for a maximum period of 7 years (Article 666 of the Law).

For the use of the DBE, the Bank must grant prior approval based on a complete application file submitted by the undertaking. The Bank's approval will only be granted on an individual basis, taking into account the specific requirements and additional elements that are relevant for the assessment.

This circular specifies the specific requirements for the communication of information to the Bank as well as the procedures to be followed for the approval process.

II. Bank's requirements for the use of the "Duration-Based Equity risk sub-module" (Duration-Based Equity risk sub-module)
In its assessment of the compliance and eligibility of the "Duration-Based Equity risk sub-module" (Duration-Based Equity risk sub-module - DBE) in the context of the calculation of the SCR according to the standard formula, the Bank will take into account all the elements comprising the application file as referred to in Article 162 of the Law of 23 March 2016 on the status and supervision of insurance or reinsurance undertakings. To ensure an equal assessment of an application file and a uniform application of the "duration-based equity risk sub-module", the Bank specifies the following interpretation and eligibility criteria which the undertaking must take into account:

a) Separate administrative and accounting management: The undertaking's activities for which the DBE is used are split on administrative and accounting levels. This must generally be interpreted differently from the notion of "identified, managed and organised separately" applicable to the equalisation adjustment. The transfer of assets and liabilities from the separate administrative and accounting management to or from other activities of the undertaking is only possible with the Bank's approval.

b) Foreign activities: The part of the activities carried out in a Member State other than the Member State where the authorisation to carry out activities was granted is not eligible for the use of the DBE. The Bank's approval is only given for the portfolio of assets and liabilities in Belgium.

c) Solvency position and impact on the SCR ratio: The undertaking must recalculate its SCR ratio assuming that neither the DBE nor the transitional measure for equity risk (Article 666 of the Law) applies. This implies the application of a shock of 39% +/- 10% maximum symmetric adjustment on the SCR on equity for type 1 shares, and a shock of 49% +/- 10% maximum symmetric adjustment for type 2 shares, instead of the 22% shock under the DBE.

d) Impact on liquidity: The undertaking must carry out its own assessment of its liquidity after a liquidity stress test. The assumption made in this regard is an increased risk of liquidity problems if the undertaking is forced to sell its equity portfolio or other assets following a shock on the surrender of contracts to which the DBE applies. The undertaking must be able to justify its own assumptions regarding surrender behaviour after the shock.

e) Asset reallocation: The undertaking may only sell eligible equity investments for the DBE in exceptional circumstances resulting from a credit event linked to the issuer of the shares or market conditions related to the market on which the shares are traded, and the decision to sell the shares must be in accordance with the approved risk tolerance limits, risk appetite, and the undertaking's internal investment policy.

f) Prudent person: The undertaking invests, in accordance with the "prudent person" principle, in assets and instruments presenting risks that it can identify, measure, monitor, manage, control and report adequately and that it can take into account appropriately in the assessment of its overall solvency need. All assets are invested in such a way as to guarantee the security, quality, liquidity, profitability and congruence of the entire portfolio. Furthermore, the location of these assets is such that it guarantees their availability. Assets held for the purpose of covering technical provisions are also invested in a manner appropriate to the nature and duration of the insurance and reinsurance liabilities. The undertaking's investment policy must clearly indicate that the shares held to cover the DBE liability portfolio are held for a period corresponding to the average duration of the liabilities. This policy is approved by the board of directors and is subject to regular monitoring.

g) Collective investments and other investments presented in the form of funds: Undertakings are expected to apply the look-through approach for equity investments in collective investment undertakings and other investments presented in the form of funds. The undertaking must be able to demonstrate that the strategy and intention of the fund are to hold the underlying equity positions in accordance with the undertaking's asset-liability management and investment policy. This must be documented in the fund's investment mandate. If the undertaking is unable to identify the underlying shares using the look-through approach and it is not possible to rely on the target allocation of the fund's underlying assets in accordance with Art. 84§3 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014, it must consider equity investments in collective investment undertakings and other investments presented in the form of funds as type 2 shares for the calculation of the SCR regarding equity risk.

III. Bank's evaluation procedure and approval limits
Undertakings wishing to use the DBE are required to submit an application file to the Bank, taking into account the interpretations given by the Bank regarding eligible activities as described in points a) and b). In their application, undertakings must confirm the elements of points c) to h) and document compliance with these conditions.

For the approval procedure regarding the use of the DBE, the data required by the Bank must be communicated to the Bank's case manager. The Bank will acknowledge receipt of the approval request by letter. The Bank intends to indicate, within 30 working days following receipt of the application, whether it is complete. An approval request is considered complete if it contains all the information required by the Bank. If the Bank finds that the application is incomplete, it immediately communicates to the undertaking that the approval deadline has not yet started to run and specifies the reason why the application was not considered complete. When the Bank confirms that the application is complete, it may still request additional information that it deems necessary for the examination of the file. In this case, the Bank's request specifies and justifies the information sought. In the context of the assessment of the application, the Bank may ask the undertaking to make adjustments or modifications.

Circular – Page 4/4 NBB_2017_07 – 1 March 2017

The Bank ensures that a decision regarding the application is taken within a period of three months from the receipt of a complete application.

The days between the date on which the Bank requests this information or adjustments and the date on which it receives them are not taken into account for the calculation of the aforementioned three-month deadline.

The Bank further specifies that the transitional measure of the "equity risk sub-module" provided for in Article 666 can be applied optionally and without prior approval. The measure is applicable to the portfolio of type 1 or type 2 shares acquired by the undertaking before 1 January 2016 and for which the use of the "duration-based equity risk sub-module" is not applicable or for which there has been no approval. The equity portfolio to which this transitional measure applies must therefore be identifiable or verifiable and subject to separate reporting.

Regarding the application of the transitional measure of the "equity risk sub-module" in accordance with Article 666 of the Law, reference should be made to Commission Implementing Regulation (EU) 2016/1630 of 9 September 2016, which describes the procedures to be followed for the identification and documentation of the relevant equity portfolio.

It should be specified that, for the application of this transitional measure, the standard parameter to be used for the calculation of the "equity risk sub-module" according to the standard formula, without the use of the "duration-based equity risk sub-module", must include the symmetric adjustment of the capital requirement for equity as defined in Article 172 of Commission Delegated Regulation (EU) 2015/35 of 10 October 2014. Thus, the at least linear transition from 22% for the year starting on 1 January 2016 to the standard parameter as of 1 January 2023 must be adapted according to the evolution of the symmetric adjustment of the capital requirement for equity.

IV. Entry into force
This circular enters into force on the day following its publication.
A copy of this is sent to the auditors, approved auditors of your establishment.

Please accept, Madam, Sir, our distinguished salutations.

Jan Smets
Governor