OSFI revises Earthquake Exposure Guideline

Aug., 2012 – The Office of the Superintendent of Financial Institutions (OSFI) is proposing changes to guideline B-9, Earthquake Exposure Sound Practices, for property and casualty insurance companies in Canada.

Among the updates, the Guideline emphasizes and strengthens the principles-based approach to managing earthquake exposure. OSFI said as part of the proposed revision, details of the capital formula would be removed from Guideline B-9 and an updated capital formula would be included in the Minimum Capital Test (MCT) Guideline.

The draft revisions to Guideline B-9 include refinements in the areas of measuring risk and capitalizing against earthquakes (including quality of data and model risk). OSFI first began discussing the revisions with the industry in 2010. The related capital changes propose updating certain sections currently contained in Guideline B-9 and moving them into the MCT Guideline for ease of reference.

OSFI said the complexities associated with managing earthquake exposures, combined with the potential severity of losses, the difficulty of mitigating the risk post-event, and the high public profile of a major earthquake require insurers to have comprehensive policies and procedures in place, along with an appropriate level of oversight to ensure that they are effective.

This Guideline sets out OSFI’s expectations for policies and procedures applicable to insurers that write business materially exposed to earthquake-related losses. These policies and procedures should form part of an insurer’s overall catastrophe risk management.

The Guideline also sets out common parameters and other factors to be considered when calculating probable maximum loss (PML). This information, when compared to the level of financial resources available, will enable an insurer to assess its capacity and financial preparedness to handle claims that may arise from a major earthquake. Insurers are expected to report certain earthquake exposure information to OSFI annually.

Earthquake policies and procedures should document the significant elements of the insurer’s approach to managing its earthquake risk. Specifically, the regulator says earthquake policies and procedure should include:

  • the institution’s risk appetite and risk tolerance for earthquake insurance;
  • data management practices;
  • exposure aggregation monitoring and reporting;
  • appropriate understanding, selection and use of earthquake models, including
  • considerations for model limitations, uncertainties and non-modeled classes of business;
  • identification and estimation of relevant PML factors;
  • the nature and adequacy of financial resources available in relation to the PML;
  • contingency plans to ensure adequate claim handling resources and continued efficient operations;
  • consideration of potential increases in claim and operating costs following a major loss event.

OSFI is accepting comments on both the proposed changes to Guideline B-9 (PDF) and the MCT Guideline section (PDF) on or before September 30, 2012. Questions concerning Guideline B-9 should be addressed to your OSFI Relationship Manager or to Mr. Chris Townsend, Actuarial Division, by e-mail at [email protected]. Questions on the draft MCT guideline section may also be addressed to Judith Roberge, Capital Division, by e-mail at [email protected].