PRA sets out 2024 insurance supervisory priorities

The PRA issued a Dear CEO letter to life and general insurers on 11 January 2024, setting out its supervisory priorities for the year ahead.

The PRA sets out its priorities in the context of the changing regulatory landscape. This includes Solvency UK reforms and the new secondary objective on international competitiveness.

The PRA highlights several areas of focus and also reminds firms of its expectations on financial risks arising from climate change. It states further progress is required from firms on scenario analysis and risk management to support effective decision making in this area. The PRA confirms its intention to update supervisory statement (SS) 3/19.

What does this mean?

There are three sets of priorities: 1) cross-sector insurance; 2) life insurance; and 3) general insurance.

Cross-sector priorities

Given the exposure of credit markets to inflationary cost pressures, economic uncertainty and geopolitical tensions, it is vital for insurers to have in place appropriate credit risk management, and appropriate internal credit assessment frameworks. As firms continue to invest in a wider range of credit risky assets, the PRA will seek assurance from firms regarding their credit risk management capabilities, to ensure that these remain fit for purpose.

In light of the derivative driven liquidity strains that some insurers experienced in 2022, the PRA plans to collect liquidity risk exposures data on a consistent basis going forward. Further, the PRA will continue to engage with insurers on the BoE-run exploratory system-wide exercise, which will explore how the behaviours of insurers may interact with those of other financial institutions in stressed financial market conditions and its potential impact on UK financial stability.

With respect to operational resilience, the PRA reminds insurers that they have until March 2025 to demonstrate that they can remain within impact tolerances for all their important business services.

Lastly the PRA wants to ensure that insurers can exit the market in an orderly way. It will consult ‘shortly’ in this area.

Life insurance priorities

The PRA states insurers must adopt a strategic approach to investing, with the long term interests of policyholders in mind. Risk management frameworks should be sufficiently sophisticated to align with the scale of the business and the increased breadth of investment.

The PRA reiterates that it considers funded reinsurance transactions may give rise to contingent exposure via recapture risk. Therefore funded reinsurance should only have a limited role in a firm’s diversified asset strategy. The PRA confirms the Prudential Regulation and Financial Policy Committees intend to develop further policy and supervisory measures on this topic.

The PRA intends to publish its approach document to the life insurance stress test in 2024. It also plans to continue to engage with the industry on the technical, operational and communication aspects of the exercise.

General insurance priorities

The PRA will continue its focus on cyber underwriting risk, specifically on ensuring that firms' capital and exposure management capabilities are commensurate to the growth and volatility of this risk.

Claims inflation continues to be another PRA focus area. The PRA states insurers should continue to be alert to the risk of excessive optimism on reserves, pricing and reinsurance planning.

Where insurers use internal models, the PRA emphasises that the models must continue to reflect the changing risk landscape. It will continue to monitor the ongoing appropriateness of internal models, particularly focussing on the effectiveness of internal model validation.

The PRA confirms it will run its first dynamic general insurance stress test in 2025. The exercise will involve simulating a sequential set of adverse events over a short period of time. The PRA plans to publish more details of this exercise in the first half of 2024.

What do firms need to do?

As the risk environment continues to be challenging, insurers should ensure they continue to assess the appropriateness of their risk management frameworks and their internal controls.

Insurers should ensure that they grow in a sustainable way when seizing opportunities presented by the changing economic, regulatory and technological environment.

Insurers should engage and provide feedback to the PRA as the regulator continues to implement Solvency UK reform, and develop other regulatory expectations (such as stress test exercises).

Macroeconomic conditions and heightened geopolitical tensions mean the PRA is focused on insurers’ capital and liquidity positions, risk management practices, and governance controls. Insurers should be prepared for scrutiny in these areas, including via data and other information requests.

Boards and senior managers should challenge and oversee business functions to ensure that their firm is on track to meet the PRA’s March 2025 operational resilience deadline as set out in SS1/21.

Insurers should address any gaps in data, tools, and expertise for assessing the impact of climate risks and continue to take steps to embed climate risk within their overall risk management frameworks.

As life insurers look to substantially increase the scale and range of their investments, the PRA states insurers must ensure their strategic choices and investment decisions are made within their own risk tolerance limits.

Life and general insurers will want to engage closely with the PRA to help shape the design and operation of the 2025 life insurance stress test and the 2025 dynamic general insurance stress test.

General insurers should continue to assess evolving cyber threats to ensure that their capital and exposure management capabilities remain appropriate to the changing levels of exposure. Additionally, insurers should ensure their policy wordings are clear; the PRA states it will also monitor contract uncertainty risk.

Ahead of the introduction of new rules on resolution planning, firms should continue to assess whether there are inherent barriers to their ability to recover from stresses or be resolved. Firms can utilise the insight that emerges when looking at their business through a R&R lens to support a wider view of risk management practices and respond to vulnerabilities.

“The PRA’s 2024 insurance agenda is clearly a busy one. Insurers should be prepared to have their risk management and control frameworks scrutinised by the regulator, particularly in light of the rapidly evolving risk landscape.”

_{Anirvan Choudhury

Senior Manager, PwC}

Next steps

Insurers should expect ongoing engagement from supervisory teams on the areas covered in the letter as well as specific feedback, including through the periodic summary meeting process.