Capital models used in P&C insurance and reinsurance have become increasingly mission-critical to risk and business management. In recent years, regulators and rating agencies have heightened standards for these models dramatically, with an urgency magnified by turmoil in the financial markets. Today, however, insurers with effective models are able to capture competitive advantage with greater capital flexibility, lower cost of capital, and ultimately, stronger and more stable earnings.
In this report from Guy Carpenter sister company, Oliver Wyman, the authors reveal how many firms fail to realize the informational value of their capital models - often despite having made significant investments to do so - because of a critical shortcoming we have seen in their model development cycle: comprehensive validation. We also outline the components of successful model validation and its importance in building credibility with key constituents and identify common model pitfalls faced by insurers.