Sun Life 2015 Annual Report Download - page 60

In this section, segregated funds include segregated fund guarantees, variable annuities and investment products, and includes Run-
off reinsurance in our Corporate business segment.
Our Risk Framework has grouped all risks into six major risk categories: credit, market, insurance, business and strategic, operational
and liquidity risks.
Credit Risk
Risk Description
Credit risk is the possibility of loss from amounts owed by our borrowers or financial counterparties. We are subject to credit risk in
connection with issuers of securities held in our investment portfolio, debtors, structured securities, reinsurers, counterparties (including
derivative, repurchase agreement and securities lending counterparties), other financial institutions and other entities. Losses may
occur when a counterparty fails to make timely payments pursuant to the terms of the underlying contractual arrangement or when the
counterparty’s credit rating or risk profile otherwise deteriorates. Credit risk can also arise in connection with deterioration in the value
of, or ability to, realize on any underlying security that may be used as collateral for the debt obligation. Credit risk can occur at multiple
levels, as a result of broad economic conditions, challenges within specific sectors of the economy, or from issues affecting individual
companies. Events that result in defaults, impairments or downgrades of the securities in our investment portfolio would cause the
Company to record realized or unrealized losses and increase our provisions for asset default, adversely impacting earnings.
Credit Risk Management Governance and Control
We employ a wide range of credit risk management practices and controls, as outlined below:
• Credit risk governance practices are in place, including independent monitoring and review and reporting to senior management
and the Risk Review Committee.
• Risk appetite limits have been established for credit risk.
• Income and regulatory capital sensitivities are monitored, managed and reported against pre-established risk limits.
• Comprehensive Investment and Credit Risk Management Policy, guidelines and practices are in place.
• Specific investment diversification requirements are in place, such as defined investment limits for asset class, geography, and
industry.
• Risk-based credit portfolio, counterparty, and sector exposure limits have been established.
• Mandatory use of credit quality ratings for portfolio investments has been established and is reviewed regularly.
• Internal rating decisions for new fixed income investments and ongoing review of existing rating decisions are independently
adjudicated by corporate risk management.
• Comprehensive due diligence processes and ongoing credit analyses are conducted.
• Regulatory solvency requirements include risk-based capital requirements and are monitored regularly.
• Comprehensive compliance monitoring practices and procedures including reporting against pre-established investment limits are
in place.
• Reinsurance exposures are monitored to ensure that no single reinsurer represents an undue level of credit risk.
• Stress-testing techniques, such as DCAT, are used to measure the effects of large and sustained adverse credit developments.
• Insurance contract liabilities are established in accordance with Canadian actuarial standards of practice.
• Internal capital targets are established at an enterprise level to cover all risks and are above regulatory supervisory and minimum
targets. Actual capital levels are monitored to ensure they exceed internal targets.
Our core principles of credit risk management include asset diversification, fundamental research and analysis of cash flows, proactive
and continuous risk monitoring, active management and relative value assessment, all with the objective of optimizing risk-adjusted
returns, with due consideration for the impacts of capital and taxation.
We rate fixed income investments primarily through the use of internally developed scorecards which combine probability of default
and loss given default to arrive at a credit risk rating. This rating is expressed using a 22-point scale that is generally consistent with
those used by external rating agencies, and is based on detailed examination of the borrower’s or issuer’s credit quality and the
characteristics of the specific instrument. The probability of default assessment is based on borrower-level or issuer-level analysis,
which encompasses an assessment of industry risk, business strategy, competitiveness, strength of management and other financial
information. The loss given default assessment is based on instrument-level analysis, which considers the impact of guarantees,
covenants, liquidity and other structural features. These scorecards provide input to stochastic value-at-risk models and are used to
stress test the portfolio, which provide insight into the distribution and characteristics of credit risk on our portfolios. In accordance
with our policies and under normal circumstances, our ratings cannot be higher than the highest rating provided by certain Nationally
Recognized Statistical Rating Organizations (“NRSROs”). Certain assets, including those in our sovereign debt and asset-backed
securities portfolios, are assigned a rating based on ratings provided by NRSROs using a priority sequence order of Standard &
Poor’s, Moody’s, Fitch and DBRS Limited.
Additional information on credit risk can be found in Note 6 to our 2015 Annual Consolidated Financial Statements and in the Risk
Factors section in our AIF.
Market Risk
Risk Description
We are exposed to financial and capital market risks – the risk that the fair value or future cash flows of an insurance contract or
financial instrument will fluctuate because of changes or volatility in market prices. Market risk includes equity market, interest rate and
spread, real estate and foreign currency risks.
58 Sun Life Financial Inc. Annual Report 2015 Management’s Discussion and Analysis