PRA issues CP setting out expectations around SII and PPP

Written by Adam Cadle

18/09/2019

The PRA has today set out its proposed expectations for investment firms in accordance with the Prudent Person Principle (PPP) relating to a firm’s investment strategy, investment risk management and governance system.

Since the introduction of Solvency II, the PRA has observed through its supervision inconsistencies in the way the PPP is understood and applied by different firms. The draft SS is intended to highlight particular inconsistencies that the PRA has identified. Part of the PRA’s motivation for issuing the draft SS is also to address PRA concerns that have emerged in the context of recent changes in the insurance sector, e.g. life insurers with annuity books have increased their exposures to assets not admitted to trading on a regulated market.

Concerning investment governance, the PRA has said that firms should identify and set investment limits for asset classes according to Article 260 (1) (c) of the Commission Delegated Regulations.

The regulator also expects that firms will stress test their portfolios under the asset concentration risk section of the PPP and it would expect firms to be able to demonstrate that the internal investment limits they set can be justified in accordance with the requirements of the PPP, within the overall context of their investment strategy, their overall risk appetite, and their approach to risk management; and that they would be able to provide evidence of not exceeding these limits.

In relation to holdings of assets not admitted to trading on a market, the PRA said investments in non-traded assets can be an appropriate match for insurance liabilities, mbut may also give rise to additional risks, e.g. they can be difficult to value in the absence of regular market pricing and to sell in a timely manner, particularly under stressed market conditions. The regulator considers that firms should fully assess the risks posed by investment in non-traded assets.

The PPP under Solvency II replaced the prescriptive asset admissibility requirements and quantitative investment limits that applied to insurance undertakings under the Solvency I regime.5 Solvency II allows firms to invest appropriately given the nature of their liabilities, their risk profile, and their risk appetites without prescribing specific types of assets and without prescribing specific exposure limits. However, the freedom of investment that applies under Solvency II is not absolute – it is constrained by the PPP and firms must ensure compliance with those requirements.

The full consultation paper can be viewed here and responses are requested by 18 December 2019.

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