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Financial Solutions Interview with Alan Routhenstein
August  2018

​More than mortality risk managers, life reinsurers play increasingly complex roles in their
clients’ day-to-day business. SCOR provides traditional life reinsurance solutions but has
also been a leader in the accelerated underwriting movement that is transforming the life
insurance buying experience. For the past 18 months and looking ahead, SCOR is also
focusing on building depth and breadth to the financial solutions we offer clients.

In both the US and globally, SCOR has created tailor-made solutions to help clients with
reserve and capital strain. New initiatives to increase our footprint in this segment began in January 2017 when Alan Routhenstein joined SCOR Global Life in the Americas as Senior Vice President, Head of Financial Solutions.

A recognized expert on XXX/AXXX reserve financing and other capital management transactions, Alan brings in-depth experience in traditional and nontraditional financial solutions for life and health insurers. He came to SCOR from Milliman, where he was a key member of the consulting firm’s life insurance initiatives. In the following SCORviews interview, Alan shares his perspective about the state of the US market and SCOR’s plans for expanding its capabilities in this arena.

The financial solutions area in the US is fairly developed. Will you give us a quick snapshot of where the market stands in terms of supply and demand for services?
Correct, financial solutions in the US is a mature market, and various capital management solutions with comparative advantages and disadvantages are available to direct writers.
Solutions include transactions for which the reinsurer’s risk of loss is similar to traditional yearly renewable term (YRT) reinsurance or coinsurance of new business as well as transactions for which the reinsurer’s risk of loss is more remote.

Financial solutions that are similar to traditional new business solutions include inforce YRT and inforce coinsurance. The former transfers C-2 risk based capital (RBC) to the reinsurer, and the latter also transfers reserves on the directly written policies to the
reinsurer.

There is a broader variety of solutions for which the reinsurer’s risk of loss is remote. The original approach primarily used surplus relief reinsurance with coinsurance as an incentive to recapture after a specified number of years. The relative prevalence of this
approach has varied over time. After the advent of risk-based capital, RBC relief reinsurance became increasingly popular. It generally involved a YRT treaty with high premium rates and large experience refunds when experience is favorable.

Figure 1 - Pre- and Post-AG48 Valuation Characterisitics

​Pre-AG48 ​Post-AG48
Valuation Basics​Regulation AXXX VM-20
Reserve structure​Reserves held are considered redundant,
perhaps excessively
​Actuarial Method Reserve is similar to the economic reserve plus a conservative
pad, but reserves must be financed with low-yield
(primary securities) which can raise the cost of capital
​Current reserve
financing treatment
​If reinsured via coinsurance or modco, ULSG policies issued before AG48’s effective date are grandfathered under AXXX​All ULSG policies issued after AG48’s effective date are subject to the new
guideline
​Is financial
reinsurance
attractive?
​Depends on whether the policies were ceded to capital-efficient reinsurers (professional or captive) before AG48 took effect​Yes, for many policies
if the reinsurer can present a more competitive structure for financing the
primary securities
​How does this apply
to Term Life?
​Financial reinsurance remains an attractive alternative for companies wishing to optimize the
performance of their XXX and AXXX policy blocks
​VM-20’s primary securities
requirements offer life insurers an option to seek more efficient financing of this segment of reserves


When the National Association of Insurance Commissioners (NAIC) created Regulation XXX and AXXX, some life insurers began to cede their term life policies and universal life policies with secondary guarantees (ULSG) to their own captive reinsurers that obtained reserve financing via an evolving variety of solution types.

On a somewhat parallel path with XXX/AXXX reserve financing, financial solutions providing financing for other forms of life, health and annuity products emerged and evolved, and these solutions have generally been referred to as embedded value (EV)
financing. Across these solution types, the overall direct writer demand remains strong, and the market still has ample need for affordable financing. So, we see opportunities for all players, which should make deals more competitive.

How is SCOR staffed to address the overall financial solutions market opportunity in the US, Canada and Latin America?
We have added significant talent to the US Financial Solutions operation. Our management team has grown to include three vice presidents, so we now can simultaneously address multiple transactions covering a variety of solution types. Our vice
presidents are George Hrischenko, Dhrubo Krishnaiyer and Jose Siberon.

How would you describe the reception to your expanded participation in the market?
The US market overall has responded quite favorably, as the team has executed three milestone transactions since October 2017, and we have a diverse deal pipeline that includes virtually all the solution types discussed here.

In 2015, Actuarial Guideline 48 (AG48), which modified requirements for XXX/AXXX policies ceded to captives, became effective. At the start of 2017, principles-based reserving, through the enactment of VM-20, was open for adoption for US life
insurers. What effect has this had on the market for XXX/AXXX reserve financing?
For the financing of grandfathered policies (i.e., pre-2015 XXX/AXXX policies ceded to a captive as of year-end 2014), there’s no real effect as they are governed under pre-AG48 rules and the grandfathering is permanent. If such policies were grandfathered as of year-end 2014, the business remains grandfathered, even if a sponsoring insurer decides to refinance, restructure, etc.

For XXX/AXXX policies that are not grandfathered, AG48 has had a dramatic impact on the reserve financing market, starting in 2015. When such policies are ceded to a captive or another reinsurer, AG48 requires that qualified invested assets (i.e., Primary Security) be held by the cedant as funds withheld or by the reinsurer as funds in trust for the benefit of the cedant in an amount not less than the Actuarial Method Reserve (AMR), a modified VM-20 reserve defined in AG48.

The VM-20 reserve itself is more akin to best-estimate economic reserves plus a conservative margin intended to approximate a 70% Conditional Tail Expectation (i.e., the average of the worst 30% of results across a number of stochastically generated scenarios). Qualified assets include investment-grade securities, derivatives used for hedging purposes, cash and cash equivalents but exclude affiliate investments and forms of financing that do not meet the NAIC definition of Admitted Assets.

As states adopt 2016 Amendments to the Credit for Reinsurance Model Law and a 2016 XXX/AXXX Reserve Financing Model Regulation, each state’s version of such law and regulation will replace AG48 as the authoritative documents governing such transactions, but the requirements will be similar to those contained in AG48, with an AMR based on the VM-20 reserve.

What economic impact will VM-20 and AG48 have on direct writers?
The economic impact on direct writers that have historically financed the excess of XXX/AXXX reserves over economic or GAAP reserves has been material. For term life (for which the great majority of policy forms have sizeable XXX reserve redundancy), the net economic impact of AG48 has been to decrease the amount of financing achievable (for companies that only finance the excess over AMR reserves) or to increase the overall cost of reserve financing (for companies that also finance the AG48 strain in a manner that qualifies as Primary Security).

For ULSG (for which the degree of AXXX reserve redundancy has historically varied considerably by policy form), the net impact of AG48 has been similar to XXX for policy forms with substantial redundancies. For other policy forms the net impact has been to
make reserve financing uneconomical, leading some insurers to the early adoption of VM-20 for such policy types.

A number of reinsurers and banks have proposed innovative AG48 financing structures to direct writers to cost effectively finance the excess of the AMR over economic or GAAP reserves. But thus far, most regulators have not been willing to approve such AG48
structures, mostly stating a concern that the structures violate the spirit of AG48. Some direct writers, reinsurers and other financing providers have continued efforts to develop cost effective AG48 financing solutions that regulators will approve. It is not yet clear whether such efforts will result in many AG48 financing transactions.

Let’s shift to principles-based reserves under VM-20. Thus far, VM-20 has only been adopted by a limited number of insurers for new business but will be applicable for all US insurers’ individual life new business on January 1, 2020. How has VM-20 affected reserve financing thus far for the early adopters, and how do you expect that to change over the next few years?
For term life, the majority of VM-20 early adopters were not previously users of XXX reserve financing and, likewise, had no intention of using reserve financing under VM-20. Early adopters that have used XXX reserve financing are exploring term life VM-20 financing solutions. We expect one or more transactions will reach the public domain later in 2018 or when year-end 2018 blue books are available. We generally expect this same behavior to emerge over the next two years among later adopters of VM-20.

For ULSG, early VM-20 adopters include a mix of insurers. Some never used reserve financing, and some used AXXX financing pre-AG48 and determined that early VM-20 adoption works better than deferred adoption for ULSG products. Most of the latter
would also like to finance their VM-20 ULSG policies but are focused on implementing replicable AG48 XXX and VM-20 term life policy financing before addressing the challenges of VM-20 ULSG policy financing.

Given that your team’s responsibility also includes Canada and Latin America, how do you see financial solutions developing in these jurisdictions?
Canada and most countries in Latin America have accounting, capital, regulatory, tax and legal issues that are distinct from those in the US. We are in exploratory discussions with non-US insurers about financial solutions in their jurisdictions. We are hopeful that some of these discussions will result in executed transactions later in 2018 or in 2019.

However, at the time of this writing, it is too early to tell which of these might fizzle as a result of an adverse opinion with regard to accounting, capital, regulatory, tax or legal issues, given that any such adverse opinion could potentially make a transaction
unattractive for the insurer or for SCOR.

Thanks, Alan. What closing message would you like to leave with our readers?
SCOR’s Financial Solutions team in the Americas welcomes the opportunity to transact with insurers in the Americas and in particular those that already are strategic traditional clients for SCOR. If a financial solutions discussion with SCOR is of interest, please contact your account executive or a member of the management team for Financial Solutions – Americas.