Solvency II: insurers study hedging options for volatility adjustment
The volatility adjustment should help insurers by smoothing the impact of market swings on the balance sheet. But firms are struggling to understand how it will work in practice. Hedging the discount rate for liabilities under the directive is challenging to begin with. The volatility adjustment threatens to add still more complexity to the process. Louie Woodall reports
UK insurers received a fillip on August 6 as a Treasury consultation paper provided reassurance that those who wish to use the Solvency II volatility adjustment (VA) will be able to do so.
This is welcome news for firms because access to the VA will allow them to reduce the impact of spread volatility on their Solvency II balance sheets. The adjustment applies a parallel upward shift in the risk-free rate that firms use to discount liabilities – the higher the rate the lower their liabilities.
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