Insurers have long embraced the concept of risk tolerances. In some cases, the risk tolerances were expressly stated in a company’s enterprise risk management (ERM) policy document or in other cases exhibited in the course of normal operations.
Beginning in 2015, the insurance industry changed its risk tolerances focus and transitioned to the development of more formal statements and transparency on the timing of company actions. The A.M. Best 2014 Supplemental Rating Questionnaire (SRQ) introduced a question on companies’ risk tolerances and board involvement. The question appeared again in the 2015 SRQ and is expected to remain in the SRQ as part of the company regulatory practice section and evolve further in the next few years.
Risk tolerances are a fundamental component of a company’s formulation of its “Own View of Risk.” A company’s view of its catastrophe models and model suitability analysis also encompasses its “Own View of Risk.” It is becoming increasingly important for companies to take an independent, customized view of how they see risk and the timing of company actions taken in response to risk. The explicit articulation of risk tolerance statements and use of model suitability analysis in catastrophe models reflect a transparent and specific approach to how risk is defined and viewed - an opportune development that may lead to deeper internal and external discussions on how each company views its risk.
The development and maintenance of stated risk tolerances are critical because they touch on all aspects of a company’s operations. Risk tolerance discussions characteristically involve underwriting, marketing, claims, information technology, rating agency strategy, board communications and reinsurance functions. The all-encompassing nature of building risk tolerance statements gives them tremendous value. Risk tolerance statements compel management to think about all aspects of the business and the unique and specific impacts the statements have on the business.