THE IMPORTANCE OF THE IMPORTANCE OF RISK MANAGEMENT PROCESSES RISK MANAGEMENT PROCESSES TO LIFE INSURANCE COMPANIESTO LIFE INSURANCE COMPANIESTO LIFE INSURANCE COMPANIESTO LIFE INSURANCE COMPANIES

Gilles Bernier, Gilles Bernier, Ph.DPh.D..ProfessorProfessor of Finance and of Finance and InsuranceInsurance

IndustrialIndustrial--Alliance Chair in Alliance Chair in InsuranceInsurance and Financial Servicesand Financial Services

FacultyFaculty of Business Administrationof Business AdministrationLaval Laval UniversityUniversity

QuebecQuebec CityCity

2008 Joint Annual Conference of the 2008 Joint Annual Conference of the Compliance Section and ConsumerCompliance Section and ConsumerCompliance Section and Consumer Compliance Section and Consumer

Complaints Officers SectionComplaints Officers Section

Canadian Life and Health Insurance Canadian Life and Health Insurance Association Inc.Association Inc.Association Inc.Association Inc.

QuebecQuebec City, April 30, 2008City, April 30, 2008

www.fsa.ulaval.ca/chairewww.fsa.ulaval.ca/chaire--www.fsa.ulaval.ca/chairewww.fsa.ulaval.ca/chaireindustrielleallianceindustriellealliance

WHAT ARE THE MAJORWHAT ARE THE MAJORWHAT ARE THE MAJOR WHAT ARE THE MAJOR RISKS IN THERISKS IN THERISKS IN THE RISKS IN THE

LIFE INSURANCE LIFE INSURANCE INDUSTRY?INDUSTRY?INDUSTRY?INDUSTRY?

RISK CATEGORIES RISK CATEGORIES IN LIFE INSURANCEIN LIFE INSURANCEIN LIFE INSURANCEIN LIFE INSURANCE

(Source: IAG, MD&A 2007, p.33(Source: IAG, MD&A 2007, p.33))

SOURCES OF STRATEGIC RISK SOURCES OF STRATEGIC RISK IN THE LIFE INSURANCE SECTORIN THE LIFE INSURANCE SECTORIN THE LIFE INSURANCE SECTORIN THE LIFE INSURANCE SECTOR

As in As in mostmost industries, the industries, the questquest for for growthgrowth isis the main source of the main source of strategicstrategicriskrisk in the lifein the life sectorsector..riskrisk in the life in the life sectorsector. .

WhyWhy? ? BecauseBecause itit requiresrequires life life insuranceinsurance companiescompanies to to place place betsbets on on specificspecific::pp–– ProductsProducts–– Distribution Distribution channelschannels–– Customer segmentsCustomer segmentsgg–– New business New business modelsmodels

StrategicStrategic risk risk is the risk arising from is the risk arising from inadequate planning inadequate planning or a or a gg gg q p gq p gcompany’s company’s failure to effectively adapt failure to effectively adapt to the business environment:to the business environment:–– It It encompasses the various risks encompasses the various risks a life insurance company is a life insurance company is

exposed to through the implementation of its business strategy exposed to through the implementation of its business strategy (i i d i l i k )(i i d i l i k )(insurance, investment and operational risks). (insurance, investment and operational risks).

–– Of utmost importance to a company’s Board of directors.Of utmost importance to a company’s Board of directors.

WHY SHOULD LIFE INSURANCE WHY SHOULD LIFE INSURANCE FIRMS MANAGE RISKS?FIRMS MANAGE RISKS?FIRMS MANAGE RISKS?FIRMS MANAGE RISKS?

A life A life insuranceinsurance company’scompany’s valuevalue dependsdepends directlydirectly on on itsits riskriskmanagement management policypolicy in in atat least 2 least 2 waysways::gg p yp y yy

–– RiskRisk management by life management by life insuranceinsurance firmsfirms affects the affects the probabilityprobability of of financialfinancial distressdistress and and thereforetherefore the the

ll llllpremiums premiums potentialpotential customerscustomers are are willingwilling to to paypay..

CustomersCustomers focus on focus on whetherwhether financialfinancial commitmentscommitmentsdd thth t tt t illill bb t (t ( d td t litlit ))underunder the the contractcontract willwill bebe met (met (productproduct qualityquality).).

–– The The assetasset riskrisk in an in an insuranceinsurance company’scompany’s privateprivateplacementplacement loanloan portfolioportfolio dependsdepends onon itsits customerscustomers’’ riskriskplacement placement loanloan portfolio portfolio dependsdepends on on itsits customerscustomers riskriskmanagement management policiespolicies..

HedgingHedging byby lenderslenders isis not anot a subsitutesubsitute forfor hedginghedging bybyHedgingHedging by by lenderslenders isis not a not a subsitutesubsitute for for hedginghedging by by borrowersborrowers. [Smith (1993)]. [Smith (1993)]

IS RISK MANAGEMENT NEW TO IS RISK MANAGEMENT NEW TO LIFE INSURANCE FIRMS?LIFE INSURANCE FIRMS?LIFE INSURANCE FIRMS?LIFE INSURANCE FIRMS?

Of course Of course NOTNOT!! !!

LifLif ii fifi h lh l l it dl it d b thb thLife Life insuranceinsurance firmsfirms have long have long exploitedexploited bothboth::RiskRisk--reductionreduction benefitsbenefits of of diversification diversification on on bothboth sidessides of of the balance the balance sheetsheet;;ReinsuranceReinsurance to controlto control financialfinancial implications ofimplications of extremeextremeReinsuranceReinsurance to control to control financialfinancial implications of implications of extremeextremeobservations observations fromfrom lossloss distributions.distributions.

Life Life insuranceinsurance firmsfirms have have alsoalso traditionnalytraditionnaly reliedrelied on a on a varietyvariety of of t l t h it l t h i ff th ith i i ki k tt ttcontrol techniques control techniques for for theirtheir riskrisk management management systemssystems. .

Standards and Standards and financialfinancial reports;reports;UnderwritingUnderwriting authorityauthority and and limitslimits;;InvestmentInvestment guidelines andguidelines and recommendedrecommended positions;positions;InvestmentInvestment guidelines and guidelines and recommendedrecommended positions;positions;IncentiveIncentive schemesschemes makingmaking compensation compensation riskrisk--relatedrelated..

MoreMore recentlyrecently lifelife insuranceinsurance firmsfirms havehave alsoalso beenbeen relyingrelying moremoreMore More recentlyrecently, life , life insuranceinsurance firmsfirms have have alsoalso been been relyingrelying more more intensivelyintensively on on derivativederivative productsproducts (options, futures, swaps, etc.) for (options, futures, swaps, etc.) for hedginghedging theirtheir financialfinancial riskrisk exposuresexposures..

WHY ARE RISK MANAGEMENT PRACTICES OF WHY ARE RISK MANAGEMENT PRACTICES OF LIFE INSURANCE FIRMS STILL EVOLVING?LIFE INSURANCE FIRMS STILL EVOLVING?

BecauseBecause life life insurersinsurers feelfeel the the needneed for for upgradingupgrading theirtheir RM RM activitiesactivities, in , in light of:light of:

DramaticDramatic riserise in thein the numbernumber ofof insolventinsolvent insurersinsurers in the USAin the USA–– DramaticDramatic riserise in the in the numbernumber of of insolventinsolvent insurersinsurers in the USA in the USA duringduring the 90’s. [Babbel & the 90’s. [Babbel & SantomeroSantomero (1999)](1999)]

WideWide arrayarray of causes:of causes:R idlR idl i ii i d li id li i ii–– RapidlyRapidly risingrising or or decliningdeclining interestinterest ratesrates

–– LossesLosses on on assetsassets ((junkjunk bonds, real bonds, real estateestate, , derivativesderivatives, …etc.), …etc.)–– MispricingMispricing of of policiespolicies–– «« ChurningChurning » of» of policiespolicies by sales agentsby sales agentsChurningChurning of of policiespolicies by sales agentsby sales agents–– InsolvenciesInsolvencies of of reinsurersreinsurers–– NonNon--compliancecompliance withwith regulationregulation–– MalfeasanceMalfeasance of officiers and of officiers and directorsdirectors

–– Canadian life Canadian life insuranceinsurance sectorsector isis no exception:no exception:

3 3 failuresfailures in Canada in Canada duringduring the 90’s.the 90’s.gg

Pressure for life Pressure for life firmsfirms to to adoptadopt more effective more effective riskrisk management management policiespolicies alsoalsocomescomes fromfrom regulatoryregulatory bodies and rating bodies and rating agenciesagencies..

HOW ARE RISK MANAGEMENT HOW ARE RISK MANAGEMENT PRACTICES EVOLVING?PRACTICES EVOLVING?

More and more by More and more by implementingimplementing an effective «an effective « Enterprise Enterprise RiskRiskManagementManagement » » processprocess able to:able to:

–– assimilateassimilate, , analyzeanalyze and and integrateintegrate data data fromfrom a a widewide varietyvariety of sources of sources withinwithin the life the life insuranceinsurance firmfirm in in orderorder to:to:

preventprevent downfallsdownfalls thatthat couldcould stop thestop the organizationorganization fromfrom achievingachievingpreventprevent downfallsdownfalls thatthat couldcould stop the stop the organizationorganization fromfrom achievingachievingitsits goals or goals or eveneven threatenthreaten itsits survivalsurvival;;

seekseek new new opportunitiesopportunities to move the agenda of the to move the agenda of the organizationorganizationforwardforwardforwardforward..

ThroughThrough goodgood riskrisk governancegovernance::

hh dd l ll l–– AtAt the the BoardBoard levellevel!!

BoardBoard membersmembers are are expectedexpected to to establishestablish whetherwhether the the firmfirm isis in in controlcontrol and and thatthat RM processes inform business decision-making;p g;

How? By How? By askingasking the right questions the right questions to senior management.to senior management.

ATTRIBUTES OF «ATTRIBUTES OF « ERMERM »»

It It isis a a dynamicdynamic processprocess trackingtracking changes in the changes in the organizationorganization in in orderorder to to remainremain effective;effective;

It It isis ledled atat a a highhigh levellevel balancedbalanced withwith thatthat abilityability to to acceptaccept input input fromfrom anyanylevellevel;;

It It helpshelps manage manage risksrisks in a more in a more comprehensivecomprehensive//integratedintegrated wayway, , soso thatthat the the organizationorganization cancan achieveachieve itsits goals goals and and createcreate value value ;;

ERMERM ii thth b llb ll ff i t li t l dit ddit d lili dd ididERM ERM isis the the umbrellaumbrella for for internalinternal audit and audit and compliancecompliance, and , and providesprovidesfor for formalformal relationshipsrelationships betweenbetween otherother riskrisk--basedbased functionsfunctions;;

ItsIts mainmain benefitsbenefits are:are:ItsIts main main benefitsbenefits are:are:–– ReductionReduction of the of the overlapoverlap of RM efforts (of RM efforts (lessless redundantredundant););–– LeverageLeverage existingexisting RM RM processesprocesses and and resourcesresources;;

CreateCreate aa commoncommon understandingunderstanding ofof risksrisks acrossacross thethe firmfirm;;–– CreateCreate a a commoncommon understandingunderstanding of of risksrisks acrossacross the the firmfirm;;–– BetterBetter identifyidentify riskrisk interdependenciesinterdependencies..

BOARD’sBOARD’s ROLE W/R TO «ROLE W/R TO « ERMERM »»[Source: [Source: GreenhillGreenhill (2006)](2006)][[ ( )]( )]

The The BoardBoard shouldshould participateparticipate in ERM by:in ERM by:

–– providingproviding oversightoversight on the on the needneed for and for and levellevel of sophistication of sophistication of of riskrisk management management requiredrequired by the by the organizationorganization;;

–– forcing managers toforcing managers to thinkthink moremore systematicallysystematically about theabout theforcing managers to forcing managers to thinkthink more more systematicallysystematically about the about the futurefuture, , therebythereby limitinglimiting downsidedownside riskrisk and and improvingimproving the the oddsoddsof of successsuccess behindbehind chosenchosen growthgrowth strategiesstrategies;;

hh ff dd hh l ll l ff i ki k–– concurringconcurring withwith or, if or, if necessarynecessary, , disputingdisputing the the levellevel of of riskrisktolerancetolerance establishedestablished by management;by management;

–– ensuringensuring thatthat riskrisk managementmanagement isis carriedcarried out on aout on a continuouscontinuousensuringensuring thatthat riskrisk management management isis carriedcarried out on a out on a continuouscontinuousbasis:basis:

Audit Audit committeecommittee oftenoften taskedtasked withwith ensuringensuring thatthat RM RM systemssystemsare in place and are in place and assessingassessing theirtheir effectivenesseffectiveness..

If If deemeddeemed necessarynecessary, a , a separateseparate riskrisk management management committeecommittee maymay alsoalso report to the report to the BoardBoard..

EXAMPLES OF RIGHT QUESTIONS FOR EXAMPLES OF RIGHT QUESTIONS FOR BOARD MEMBERS TO ASKBOARD MEMBERS TO ASKBOARD MEMBERS TO ASKBOARD MEMBERS TO ASK

Questions about: Questions about: [[GreenhillGreenhill (2006)](2006)]

–– RISK IDENTIFICATIONRISK IDENTIFICATIONDo Do wewe have a have a commoncommon understandingunderstanding of of eacheach riskrisk??AA hh i di i fi di i f h l i lh l i l bibi hh ldld ffffAre Are therethere indications of indications of psychologicalpsychological biasesbiases thatthat couldcould affect affect the identification the identification processprocess? (e.g., ? (e.g., groupthinkgroupthink biais, biais, optimismoptimismbiais, perspective biais)biais, perspective biais)

–– RISK ANALYSISRISK ANALYSISWhatWhat percentagepercentage of the of the companycompany’ value ’ value couldcould bebe affectedaffected by by the the differentdifferent risksrisks??Is Is therethere a «a « framingframing » » biasbias in the in the wayway risksrisks are are presentedpresented to to us and us and evaluatedevaluated by management?by management?WhatWhat isis the the likelihoodlikelihood of the of the risksrisks occuringoccuring? Is ? Is itit increasingincreasing, , decreasingdecreasing or constant? or constant? WhenWhen are are theythey likelylikely to to occuroccur??

EXAMPLES OF RIGHT QUESTIONS FOR EXAMPLES OF RIGHT QUESTIONS FOR BOARD MEMBERS TO ASK (BOARD MEMBERS TO ASK (contcont’)’)BOARD MEMBERS TO ASK (BOARD MEMBERS TO ASK (contcont ))

Questions about : Questions about : [[GreenhillGreenhill (2006)](2006)]

–– RESPONSESRESPONSESWhatWhat are the are the responsesresponses for the for the higherhigher prioritypriority risksrisks ??Is theIs the residualresidual riskrisk withinwithin thethe organizationorganization’ s tolerance’ s tolerance levellevel??Is the Is the residualresidual riskrisk withinwithin the the organizationorganization s tolerance s tolerance levellevel??

–– IMPLEMENTATIONIMPLEMENTATIONWhoWho isis managingmanaging eacheach of theof the responsesresponses??WhoWho isis managingmanaging eacheach of the of the responsesresponses??If a If a responseresponse isis not in place, not in place, whatwhat isis the the timelinetimeline for for implementationimplementation??WhatWhat isis thethe processprocess forfor verifyingverifying thatthat responsesresponses are in place?are in place?WhatWhat isis the the processprocess for for verifyingverifying thatthat responsesresponses are in place?are in place?

–– MONITORINGMONITORINGWhatWhat metricsmetrics areare usedused toto measuremeasure thethe effectivenesseffectiveness of the ERMof the ERMWhatWhat metricsmetrics are are usedused to to measuremeasure the the effectivenesseffectiveness of the ERM of the ERM program?program?How How isis the information the information usedused to to improveimprove the ERM the ERM processprocess??

IMPORTANCE OF RM PROCESSES:IMPORTANCE OF RM PROCESSES:LESSONS FROM THE PASTLESSONS FROM THE PASTLESSONS FROM THE PASTLESSONS FROM THE PAST

Class actions for «Class actions for « vanishingvanishing premiumpremium »» policiespolicies::Class actions for «Class actions for « vanishingvanishing premiumpremium » » policiespolicies::

–– Importance for life Importance for life insurersinsurers to to actact in in orderorder to to avoidavoid future future blbl i t di t d ithith ll dll d tt i t tii t tiproblemsproblems associatedassociated withwith allegedalleged agent agent misrepresentationmisrepresentation;;

–– GreaterGreater importanceimportance isis devoteddevoted toto compliancecompliance inin orderorder totoGreaterGreater importance importance isis devoteddevoted to to compliancecompliance in in orderorder to to train and monitor the train and monitor the behaviorbehavior of sales agents;of sales agents;

C t lC t l h b t i l b th b t i l b t–– Control Control measuresmeasures have been put in place by management have been put in place by management to to favorfavor compliancecompliance beforebefore new new policiespolicies are are issuedissued;;

–– ComplianceCompliance division division nownow oftenoften complementscomplements internalinternal audit.audit.

IMPORTANCE OF RM PROCESSES:IMPORTANCE OF RM PROCESSES:LESSONS FROM THE PAST (LESSONS FROM THE PAST (contcont’)’)LESSONS FROM THE PAST (LESSONS FROM THE PAST (contcont ))

RecentRecent«« AssetAsset--BackedBacked Commercial Commercial PaperPaper » » crisiscrisis in Canadain Canada::

–– EvaluationEvaluation of of creditcredit rating continues to rating continues to bebe an an impreciseimprecise processprocess;;

DoDo youryour ownown internalinternal creditcredit riskrisk assessmentassessment eveneven for shortfor short termterm–– Do Do youryour ownown internalinternal creditcredit riskrisk assessmentassessment, , eveneven for shortfor short--termterminvestmentsinvestments

Do not Do not relyrely onlyonly on one rating on one rating agency’sagency’s opinion;opinion;NeverNever underunder estimateestimate agencyagency riskrisk whenwhen assetsassets areare valuedvalued by aby aNever Never underunder--estimateestimate agencyagency riskrisk whenwhen assetsassets are are valuedvalued by a by a thirdthird--partyparty

RequestRequest moremore transparencytransparency fromfrom issuersissuers–– RequestRequest more more transparencytransparency fromfrom issuersissuersKnow Know whatwhat youyou investinvest in!in!

C ditC dit i ki k t it i li iditli idit blbl d td t–– CreditCredit riskrisk maymay trigger trigger liquidityliquidity problemsproblems due to due to mismatchmismatch……potentiallypotentially impactingimpacting a life a life insurer’sinsurer’s reputationreputation and and itsitsfranchise value.franchise value.

IMPORTANCE OF RM PROCESSES:IMPORTANCE OF RM PROCESSES:LESSONS FROM THE PAST (LESSONS FROM THE PAST (contcont’)’)LESSONS FROM THE PAST (LESSONS FROM THE PAST (contcont ))

PastPast cases of cases of derivativederivative mishapsmishaps: : [Hull (2007)][Hull (2007)]

–– DerivativesDerivatives cancan bebe usedused for for eithereither hedginghedging or or speculationspeculation; ; thatthat isis, , theythey cancan bebe usedused to to reducereduce risksrisks or to or to taketake risksrisks;;

–– Most Most losseslosses occuredoccured becausebecause employeesemployees whowho hadhad an explicit or an explicit or implicitimplicit mandate to mandate to hedgehedge theirtheir firm’sfirm’s riskrisk (Barings, Orange (Barings, Orange CountyCounty, LTCM) , LTCM) decideddecided insteadinstead to to speculatespeculate;;yy, ), ) pp ;;

–– Importance of Importance of havinghaving a a clearclear and and unambiguousunambiguous policypolicy statementstatementon howon how derivativesderivatives cancan bebe usedused and theand the extentextent toto whichwhich itit isison how on how derivativesderivatives cancan bebe usedused and the and the extentextent to to whichwhich itit isispermissible permissible for for employeesemployees to to taketake positions positions on on movementsmovements in in marketmarket variables;variables;

–– InternalInternal controlscontrols must must bebe set in place to set in place to ensureensure the the policypolicy isiscarriedcarried out;out;

IMPORTANCE OF RM PROCESSES:IMPORTANCE OF RM PROCESSES:LESSONS FROM THE PAST (LESSONS FROM THE PAST (contcont’)’)LESSONS FROM THE PAST (LESSONS FROM THE PAST (contcont ))

PastPast cases of cases of derivativederivative mishapsmishaps:[Hull (2007)]:[Hull (2007)]

–– «« GivingGiving individualsindividuals the the authorityauthority to to tradetrade derivativesderivatives wihtoutwihtoutcloselyclosely monitoring the monitoring the risksrisks beingbeing takentaken isis nothingnothing short of short of a a reciperecipe forfor disasterdisaster » (Hull p 36);» (Hull p 36);reciperecipe for for disasterdisaster » (Hull, p.36);» (Hull, p.36);

–– «« WhenWhen financialfinancial marketsmarkets experienceexperience a a shockshock of one sort or of one sort or hh li idili idi ‘bl k‘bl k h lh l ’’ d ld l illi idilli id iianotheranother, , liquidityliquidity ‘black ‘black holesholes’ ’ maymay developdevelop……illiquidilliquid instruments instruments

oftenoften sellsell atat a a bigbig discount to discount to theirtheir theoreticaltheoretical valuesvalues » (Hull, p.35)» (Hull, p.35)

–– «« WhenWhen everyoneeveryone isis followingfollowing the the samesame tradingtrading strategystrategy, , bewarebeware!! »»

Case of British Case of British insuranceinsurance companiescompanies in in latelate 1990’s all 1990’s all hedginghedgingtheirtheir exposureexposure to a to a fallfall in longin long--termterm interestinterest rates rates atat about the about the samesame time. The time. The resultresult? A ? A fallfall in in interestinterest rates. (Hull, p.36)rates. (Hull, p.36)

POSITIONING CANADIAN POSITIONING CANADIAN LIFE INSURERS W/R TO «LIFE INSURERS W/R TO « ERMERM »»LIFE INSURERS W/R TO «LIFE INSURERS W/R TO « ERMERM »»

Major Canadian life Major Canadian life insuranceinsurance firmsfirms cancan bebe consideredconsideredmoremore advancedadvanced practionnerspractionners of ERMof ERMmore more advancedadvanced practionnerspractionners of ERM.of ERM.

WhyWhy?? BecauseBecause theythey appearappear to:to:yy yy pppp–– treattreat ERM as ERM as beingbeing more more thanthan justjust an extension of an extension of

theirtheir audit and audit and regulatoryregulatory compliancecompliance processesprocesses;;tiftif i ki k dd li kli k thth t it l ll tit it l ll ti–– quantifyquantify manymany risksrisks and and linklink themthem to capital allocation to capital allocation

and and riskrisk--transfertransfer decisionsdecisions;;–– oftenoften relyrely on a crosson a cross--functionalfunctional riskrisk managementmanagementoftenoften relyrely on a crosson a cross functionalfunctional riskrisk management management

committeecommittee;;–– report to report to theirtheir BoardBoard on on riskrisk atat least least annuallyannually..

POSITIONING CANADIAN POSITIONING CANADIAN LIFE INSURERS W/R TO «LIFE INSURERS W/R TO « ERMERM » (» (contcont’)’)LIFE INSURERS W/R TO LIFE INSURERS W/R TO ERMERM ( (contcont ))

ButBut whatwhat aboutabout smallersmaller companiescompanies asas wellwell asasBut But whatwhat about about smallersmaller companiescompanies as as wellwell as as largerlarger but but relativelyrelatively lessless sophisticatedsophisticated onesones??

–– WeWe maymay suspect suspect thatthat theirtheir RM RM approachesapproaches are are probablyprobably lessless preciseprecise andand significantlysignificantly lesslessprobablyprobably lessless preciseprecise and and significantlysignificantly lesslessanalyticalanalytical..

OverallOverall, , therethere isis probablyprobably stillstill room for room for improvementimprovement acrossacross the the industryindustry!!

HOW CAN RISK MANAGEMENT HOW CAN RISK MANAGEMENT PROCESSES BE IMPROVED?PROCESSES BE IMPROVED?PROCESSES BE IMPROVED?PROCESSES BE IMPROVED?

By By alwaysalways questioning the questioning the cohesivenesscohesiveness of the of the currentcurrentRMRM frameworkframework;;RM RM frameworkframework;;

ByBy relyingrelying on aon a structuredstructured,, bottombottom--upup TopTop--1010 riskriskBy By relyingrelying on a on a structuredstructured, , bottombottom up up TopTop 10 10 riskriskprocessprocess whichwhich addressesaddresses bothboth financialfinancial and nonand non--financialfinancial risksrisks;;

By By developingdeveloping a a healthyhealthy riskrisk culture culture insideinside the the firmfirm, , fosteringfostering promptprompt reportingreporting ofof risksrisks, incidents and, incidents andfosteringfostering prompt prompt reportingreporting of of risksrisks, incidents and , incidents and breachesbreaches;;

By By takingtaking the the approachapproach thatthat «« everyoneeveryone isis a a riskriskmanagermanager »;»;

HOW CAN RISK MANAGEMENT HOW CAN RISK MANAGEMENT PROCESSES BE IMPROVED? (PROCESSES BE IMPROVED? (contcont’)’)PROCESSES BE IMPROVED? (PROCESSES BE IMPROVED? (contcont ))

By By tryingtrying to to learnlearn more about more about lessless quantifiable quantifiable risksrisks((suchsuch asas operationaloperational riskrisk):):((suchsuch as as operationaloperational riskrisk):):

–– It It involvesinvolves twotwo thingsthings: [as : [as suggestedsuggested by by ApgarApgar (2006)](2006)]

FirstFirst, the formulation of possible solutions to , the formulation of possible solutions to problemsproblemsposedposed by theby the riskrisk or possibleor possible answersanswers to questionsto questionsposedposed by the by the riskrisk, or possible , or possible answersanswers to questions to questions about about whatwhat drives drives itit;;

S dS d hh hh h hh hSecondSecond, , itit requiresrequires experienceexperience thatthat cancan show show whichwhichsolutions solutions maymay bebe right, right, whichwhich are are wrongwrong, or , or whetherwhetherwewe needneed more options.more options.

HOW CAN RISK MANAGEMENT HOW CAN RISK MANAGEMENT PROCESSES BE IMPROVED? (PROCESSES BE IMPROVED? (contcont’)’)PROCESSES BE IMPROVED? (PROCESSES BE IMPROVED? (contcont ))

By By learninglearning fromfrom failurefailure [[EdmondsonEdmondson & & CannonCannon, (2007)], (2007)]

–– «« Small Small failuresfailures are are oftenoften the ‘the ‘earlyearly warning warning signssigns’ ’ whichwhich, if , if detecteddetectedand and addressedaddressed, , maymay bebe the the keykey to to avoidingavoiding catastrophiccatastrophic failurefailure in the in the futurefuture ».».

–– «« WhenWhen smallsmall failuresfailures are not are not identifiedidentified widelywidely, , discusseddiscussed and and analyzedanalyzed, , itit isis veryvery difficultdifficult for for largerlarger failuresfailures to to bebe preventedprevented ».».

–– «« Managers Managers needneed to to createcreate an an environmentenvironment in in whichwhich theythey and and theirtheiremployeesemployees are open to putting are open to putting asideaside theirtheir selfself--protective protective defensesdefenses, and , and

didi i t di t d ithith i iti it dd d id i tt ll ff f ilf ilrespondingresponding insteadinstead withwith curiositycuriosity and a and a desiredesire to to learnlearn fromfrom failurefailure ».».

–– «« ReframingReframing failurefailure fromfrom somethingsomething associatedassociated withwith shameshame and and weaknessweakness toto somethingsomething associatedassociated withwith riskrisk uncertaintyuncertainty andandweaknessweakness to to somethingsomething associatedassociated withwith riskrisk, , uncertaintyuncertainty and and improvementimprovement isis a a criticalcritical first first stepstep in the in the learninglearning journeyjourney ».».

HOW CAN RISK MANAGEMENT HOW CAN RISK MANAGEMENT PROCESSES BE IMPROVED? (PROCESSES BE IMPROVED? (contcont’)’)PROCESSES BE IMPROVED? (PROCESSES BE IMPROVED? (contcont ))

By By establishingestablishing RM RM reportingreporting proceduresprocedures suchsuch as as marketmarketriskrisk tolerancetolerance limitlimit reportsreports earningsearnings--atat--riskrisk reports etc ;reports etc ;riskrisk tolerancetolerance limitlimit reports, reports, earningsearnings atat riskrisk reports, etc.;reports, etc.;

ThroughThrough the the continualcontinual developmentdevelopment of of technicaltechnical toolstools::

–– W/r to W/r to insuranceinsurance risksrisks, computer , computer technologytechnology nownow allowsallowsforfor betterbetter policypolicy pricingpricing andand riskrisk analysisanalysis throughthrough thethefor for betterbetter policypolicy pricingpricing and and riskrisk analysisanalysis throughthrough the the modelingmodeling of the of the interestinterest--rate rate sensitivitysensitivity of of policypolicycash cash flowsflows;;

–– W/r to W/r to investmentinvestment risksrisks, , ALM techniques and scenario ALM techniques and scenario testingtesting cancan nownow bebe muchmuch more more sophisticatedsophisticated as life as life insurersinsurers maymay relyrely on on more consistent more consistent valuationvaluationmethodologiesmethodologies for for bothboth sidessides of the balance of the balance sheetsheet. .

CONCLUSIONSCONCLUSIONSIt has been It has been saidsaid thatthat the the onlyonly certaintiescertainties in life are in life are deathdeath and taxesand taxes..

The The onlyonly certaintycertainty in modern business, in modern business, includingincluding the life the life insuranceinsurance sectorsector isis thatthat therethere isis no escapeno escape fromfrom riskrisk!!!!insuranceinsurance sectorsector, , isis thatthat therethere isis no escape no escape fromfrom riskrisk!!!!

–– InIn today’stoday’s world a lifeworld a life insurer’sinsurer’s riskrisk strategystrategy cannotcannotIn In today stoday s world, a life world, a life insurer sinsurer s riskrisk strategystrategy cannotcannotbebe separatedseparated fromfrom itsits growthgrowth strategystrategy..

UltimatelyUltimately ERM, as a ERM, as a processprocess, , isis a a formform of of generalgeneralmanagement management aimingaiming atat ensuringensuring an an organization’sorganization’s continuouscontinuous improvementimprovementorganization sorganization s continuouscontinuous improvementimprovement..

REFERENCESREFERENCESApgApg DD Ri kRi k Intelligen e Le ning to M n geIntelligen e Le ning to M n ge Wh tWh t WeWe Don’tDon’t KnoKnoApgarApgar, D, D., ., RiskRisk Intelligence: Learning to Manage Intelligence: Learning to Manage WhatWhat WeWe Don’tDon’t KnowKnow , , HBS HBS PressPress, 2006, 2006

Babbel D.F. & A.M. Babbel D.F. & A.M. SantomeroSantomero, «, « An An AnalysisAnalysis of the Financial of the Financial RiskRiskM tM t PP U dU d B LifB Lif II ii Ch i th LifCh i th LifManagement Management ProcessProcess UsedUsed By Life By Life InsurersInsurers », in », in Changes in the Life Changes in the Life InsuranceInsurance IndustryIndustry, , editededited by J.D. by J.D. CumminsCummins & A.M. & A.M. SantomeroSantomero, KAP, 1999, , KAP, 1999, 279279--326.326.

Ed d AEd d A & M& M CC P ttiP tti F ilF il tt W kW k R tR tEdmondson,AEdmondson,A. & M. . & M. CannonCannon. « Putting . « Putting FailureFailure to to WorkWork »,», RotmanRotmanMagazineMagazine, , SpringSpring 2007, 772007, 77--79.79.

GreenhillGreenhill, J. «, J. « The The BoardBoard of of DirectorsDirectors in in RiskRisk GovernanceGovernance » » InsuranceInsurance and and Ri kRi k M tM t V l 74 (2) J l 2006 187V l 74 (2) J l 2006 187 200200RiskRisk ManagementManagement, Vol. 74 (2), July 2006, 187, Vol. 74 (2), July 2006, 187--200.200.

Hull, J. «Hull, J. « Hull’sHull’s LawsLaws: : WhatWhat WeWe Can Can LearnLearn FromFrom DerivativeDerivative MishapsMishaps »,»,RotmanRotman MagazineMagazine, , SpringSpring 2007, 322007, 32--36.36.

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