Volatility Capital Buffer to Prevent the Breach of the Solvency II Capital Requirements

Financial and Economic Review, Vol. 15. Issue 1. pp. 91-123.

33 Pages Posted: 30 Mar 2016

Date Written: March 29, 2016

Abstract

The Solvency II regulation prescribes continuous capital adequacy, despite the fact that insurance companies only determine their capital adequacy in a reliable manner once annually. The volatility capital buffer (VCB) is meant to guarantee that, despite the higher volatility arising from the market valuation, at a given α confidence level the solvency capital of insurers meets the capital requirement on a continuous basis. This paper reduces the problem to the search of the probability distribution quantile belonging to the α confidence level (VaRα), the 99.5 per cent quantile of which is the solvency capital requirement (SCR) specified in the Solvency II Capital Regulation, and thus the VCB can be expressed as a percentage of the SCR. Without the assumptions related to the distribution, any value may be obtained for the VCB ratio, but it can be squeezed into a relatively narrow band even under natural assumptions. On the one hand, the analysis of these distribution groups may further narrow the possible values, and on the other hand it points out that in the case of fatter-tailed distributions (when major, extreme losses may also occur more frequently) and positive skewness (when the probability of the loss is smaller than that of the profit, but the value thereof is expected to be higher), we obtain a lower VCB ratio.

Keywords: Solvency II, volatility, capital buffer, loss ddistribution, quantile, confidence level

JEL Classification: C13, C46, G22

Suggested Citation

Zubor, Zoltán, Volatility Capital Buffer to Prevent the Breach of the Solvency II Capital Requirements (March 29, 2016). Financial and Economic Review, Vol. 15. Issue 1. pp. 91-123., Available at SSRN: https://ssrn.com/abstract=2755955

Zoltán Zubor (Contact Author)

Magyar Nemzeti Bank ( email )

Szabadsag ter 8-9
Budapest, H-1850
Hungary

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