Munich Re Group Annual Report 2006 (PDF, 1.8

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Munich Re Group Annual Report 2006 Solvency II requirements (such as recognition of internal models, diversification benefits and the lead regulator concept) may make it easier in the future to recognise diversification benefits between primary insurance legal entities (and between reinsurance and primary insurance business segments) and reduce required capital accordingly. Value-based management Risk management tools and processes are embedded in our business steering concepts through the value-based management system applied in the Group. Various riskadjusted earnings targets are given to our business managers using the results of the Munich Re Capital Model or market-consistent embedded value framework. In this way, there is an explicit linkage of the results from the Munich Re Capital Model to the remuneration of our business executives. The value-based management framework we deploy is geared to ensuring that business which is written by a business unit meets the technically risk-adequate price standard for the aggregate of the business unit’s portfolio. The technically risk-adequate price is defined as the price which reflects the sum of expected losses, acquisition and non-acquisition costs plus the cost of allocated risk capital, including an allowance for frictional costs. Risk measurement As a global risk carrier, we can diversify our portfolio through the broadest possible mix and spread of individual risks, thus significantly reducing the volatility of total claims payments and substantially increasing the value added by all divisional units. We are constantly refining the tools with which we monitor and manage risks. Our suite of tools for measuring risks is tailored to the business or operational segment we are monitoring. In each case, the lead risk measure is an economic risk measure designed to best reflect the risk in our portfolio. We also regularly compare these economic risk measures with both regulatory and rating-agency measures as part of our active capital management process. These comparisons are performed at many levels including Group, segment, legal entity, risk type, geographical and line of business. We also regularly perform 126 Management report_Risk report outside-in benchmarking of our capital model results and participate in industry surveys to constantly challenge and continuously refine our risk measurement tools so that they continue to reflect the most faithful representation of the economic risks in our portfolio. We have also adopted the Group of 30 recommendations for disclosure of economic capital to assist users of financial disclosures in making comparisons with our peers. In this context, we have published the results of our Munich Re Capital Model on our website and have also presented them to analysts for each year commencing 1 January since the calendar year 2001. The results of this for the year commencing 1 January 2007 will be published in May 2007. To improve supervision of risks, we distinguish between market, credit, liquidity, insurance and operational risks. Qualitative risk assessment Whilst we are in a position to adequately assess the known risks in our portfolio, the growing complexity and dynamism of the environment in which we operate means that we must also remain vigilant with respect to the detection and representation of new or emerging risks. We follow a multidisciplinary approach in this regard using the knowhow and experience of geoscientists, biologists, specialist underwriters, lawyers, economists, sociologists and actuaries. For example, the Geo Risks Research team for natural catastrophes consists of 28 staff, who have published numerous papers on the likely impact of climate change on the future frequency and severity of losses for the insurance industry. We utilise their research to ensure that the capitalisation for risks in our portfolio includes an allowance for the risk of change. For the holistic assessment of the risk situation, risk surveys coordinated by IRM (Integrated Risk Management) are conducted throughout the Munich Re Group. Such surveys consist partly of standardised reports based on risk questionnaires, meetings and workshops held with the individual departments and subsidiaries. These are supplemented by various top-down assessments from senior management on concrete topics. The findings thus obtained are additionally reconciled with our operative corporate planning process. Besides this, there
Munich Re Group Annual Report 2006 Management report_Risk report is an internal ad-hoc reporting process to ensure we can take immediate action if risks or hazards emerge suddenly. The Board of Management or its respective committees may also be called within 24 hours’ notice in addition to the regular meetings. Thanks to information from the risk assessments, the Board of Management is notified at an early stage about risk-relevant developments, and riskreduction measures can be recommended and coordinated. Where a risk assessment is performed by one of the decentralised Group risk functions, the role of the Group CRO’s central IRM unit is to independently challenge and verify the findings of that risk assessment using its own knowledge of the risks, together with structured interviews and independent analysis. As part of the early-warning system under the German Law on Corporate Control and Transparency, “emerging risks” have to be considered. These are risks that may have unidentified effects on our risk portfolio due to changes in risk factors (e.g. legal, socio-political, scientific and technological), where the degree of uncertainty as regards the extent of damage and occurrence probability is very high. Trends and faint signals are identified internally in many different ways: this includes systematic trend research in Group Development, utilising Munich Re’s knowledge management, and risk assessment. Different forms of cooperation with external partners supplement our internal early-warning system. One example is our collaboration with the US RAND Institute for Civil Justice on the issue of class actions; another is Munich Re’s chairing of the CRO Forum’s Emerging Risks Initiative in 2007 (the CRO Forum being an association of Chief Risk Officers from major insurance companies). The primary objectives of the initiative are to identify key emerging risks for the insurance industry, to create corresponding scenarios for these, and to proceed with developing the requisite range of tools to deal with them. The initiative includes representatives of the European, US and Australasian insurance and reinsurance industries. Our investments are continually monitored on the basis of various key risk and earnings figures as part of a Group-wide early-warning system. This is designed to ensure the achievement of result targets, the fulfilment of solvency requirements and sufficient equity capital protection at individual company level as well as at Group level. At all companies, we have established asset-liability teams (ALTs) that advise on and monitor strategic decisions relating to investments. This has enabled us to standardise the Munich Re Group’s investment-related risk management activities and to follow a liability-driven investment strategy. The recommendations of the ALTs are formally presented to the respective Board member responsible for investments, together with independent verification and challenge provided by the Integrated Risk Management Division. Quantitative risk measurement: Modelling and aggregation For a quantitative assessment of the overall risk situation, an internal model has been developed and maintained. The design of our internal model follows a bottom-up approach. We have selected the financial year as the period for evaluating risk capital requirements at Group level. Risks within this period are covered by risk-based capital derived from our specified risk tolerance. All risks beyond the annual timeline are accounted for by the costs of holding risk-based capital over time. In so doing, we follow the “cost of capital” approach. When determining risk-based capital, we distinguish between market, credit, insurance and operational risks. Within insurance risks, we distinguish between propertycasualty and life and health risks. Further subcategories are applied to these risk types – for example, for the property-casualty reinsurance segment, we distinguish between natural catastrophe risks, other accumulation losses (such as terrorism or “liability catastrophes”), large losses and basic losses. Basic losses can also be broken down into premium insufficiency risks and the risks of adverse loss development. Those risks are first modelled separately. In a further step, the risks are aggregated using a combination of empirical and judgemental techniques that allow for the risks of so-called “tail dependencies” (e.g. the risk that extreme events happen at the same time in different lines of business, geographies, and risk types) and the overall risk is thereby quantified. 127
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Munich Re Group Annual Report 2006
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The Munich Re Group Our operations
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Munich Re Group in 2006 Tireless an
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Quarterly figures Balance sheet 31.
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© 2007 Münchener Rückversicherun
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