O ve rv iew Str ate gic Re po rt G ov er na nc e Fin an cia ls
Risk description & impact Mitigation & management action
Risks from our pricing assumptions Risk outlook – No change The writing of long-term insurance contracts requires a range of
assumptions to be made, including customers’ longevity, interest rates, expenses etc.
The Group is exposed to the risk that its views on these risk factors may be materially inaccurate which may require them to be recalibrated, which in turn may affect profitability and the Group’s solvency position.
To manage this risk, the Group has developed its own proprietary underwriting system, PrognoSysTM, which provides insights and enhanced understanding of the longevity risks that the Group chooses to take.
The actual longevity experience, against what was expected, is monitored to identify any areas where expectations are materially different, and this analysis is an input into the regular review of the reserving basis for liabilities. No changes have been made to IUA longevity assumptions and reserves during the year. The more sophisticated IUA experience analysis system has been used to analyse LTM longevity. This resulted in a modest strengthening of LTM mortality assumptions.
Some longevity risk exposure is shared with the Group’s reassurance partners, and in taking a share of this risk, the reassurers examine the Group’s approach to risk selection, reserving and monitoring activities.
Having reassurance arrangements mean that the Group is exposed to counterparty risk, should the reassurer fail to meet its claim repayment obligations. This risk is reduced by the reassurer depositing the reassurance premiums back to the Group.
The assumptions made about future investment returns, credit risks and administration expenses are based on market data and historical experience, are calculated using standard actuarial principles and methods, and are subjected to validation and testing before being considered and approved by our external actuarial function holder and the Board. The monitoring of actual experience against assumptions has not identified any material variances and no adjustments to reserves have been required.
32 Just Retirement Group plc
Principal risks and uncertainties continued
Risk description & impact Mitigation & management action
Risks from the economic environment Risk outlook – No change The economic environment and financial market conditions have a
significant influence on the level of income, the value of assets and the value of liabilities.
Volatility of financial market conditions was noted as a key risk in 2013, and whilst the overall economic outlook has improved, with the UK economy strengthening, the low interest rate environment persists.
Market expectations are for a gradual increase in rates over the next few years.
The Group believes there to be limited resilience within global economies to sudden changes in monetary policies and unrest in peripheral and Eastern European countries may unsettle the Eurozone. The Eurozone economy stuttered in June 2014 as the pace of expansion across the private sector slowed, affecting investor confidence. The Eurozone economic recovery is fragile and any reversal may have consequences for the UK economy.
The premiums paid by the Group’s customers are invested to enable future payments to be made. The returns received on these investments are uncertain as a result of credit risk (default and spread risk) and market risks (fluctuations in interest rates, asset values, property prices, foreign exchange).
A fall in residential property values could reduce the amounts received from lifetime mortgage redemptions and may affect the relative attractiveness of the LTM product as a means of accessing retirement income and significant increases in property values may result in increasing numbers of early mortgage redemptions.
Economic conditions are actively monitored and alternative scenarios modelled to help better understand the potential impacts of significant economic changes and to management action plans.
One of the principles of the Group’s investment strategy is that the investment portfolio comprises high quality, low risk assets. Credit risk on the portfolio is managed through the appointment of specialist fund managers, who execute a diversified investment strategy, investing in investment grade assets and adhering to individual counterparty limits.
To mitigate the impact of the low interest rate environment, in addition to the active management of the asset and liability matching position, actions have been taken to improve returns through diversifying the investment strategy by the types of assets into which the Group invests, their geographies and industry sectors.
This diversification has brought with it exposure to foreign exchange risk. As this exposure is not desired, derivative contracts are entered into to eliminate the foreign exchange exposure as far as possible.
Interest rate swap and swaptions are also used to reduce exposures to interest rate volatility. This then brings credit exposure to various counterparties through which we transact these instruments, although this is mitigated by collateral arrangements.
The Group’s exposure to inflation risk increases in line with increases in volumes of defined benefit business. Most defined benefit schemes link member benefits to either inflation indexation and/or limited price indexation. As the Group’s exposure increases, its use of inflation hedging mechanisms will also increase.
In relation to property risk, the Group underwrites the properties against which it is prepared to lend, obtaining a valuation from a qualified third party. This provides initial comfort concerning the quality of the property book. The terms of the LTM business limit the initial loan to value (“LTV”) available under its mortgage advance, substantially limiting exposure to property risk. The combination of product design features, underwriting and monitoring of exposure to adverse house price movements control the Group’s property risk.
Market risks may also affect the liquidity position of the Group by, for example, having to realise assets to meet liabilities during stressed market conditions, maintaining and servicing collateral requirements arising from the changes in market value of financial derivatives, etc.
Liquidity risk is managed by ensuring that assets of a suitable maturity and marketability are held to meet liabilities as they fall due.
There is little short-term volatility in the Group’s cash flows, which can be reliably estimated in terms of timing and amount. Cash flow forecasts are regularly prepared to predict and monitor liquidity levels over both the short, medium and long terms and stress tests are performed to help us understand where potential pinch points may arise.
Following the listing of the Group in November 2013, liquidity has been strengthened. A high level of cash and liquid assets is maintained so should business cash inflows dramatically reduce, the Group remains able to meet its liabilities as they fall due.
The Group’s liquidity requirements have been comfortably met over the year and stress testing and forecasting confirms the continuation of this position for both investment and business operations, given the current financial and commercial market environments.