Aviva 2013 Annual Report Download - page 229

Strategic report Governance IFRS Financial statements Other information
Aviva plc
Annual report and accounts 2013
227
Notes to the consolidated financial statements continued
58 – Risk management continued
Embedded derivatives
The Group has exposure to a variety of embedded derivatives in its long-term savings business due to product features offering
varying degrees of guaranteed benefits at maturity or on early surrender, along with options to convert their benefits into different
products on pre-agreed terms. The extent of the impact of these embedded derivatives differs considerably between business units
and exposes Aviva to changes in policyholder behaviour in the exercise of options as well as market risk.
Examples of each type of embedded derivative affecting the Group are:
 Options: call, put, surrender and maturity options, guaranteed annuity options, options to cease premium payment, options
for withdrawals free of market value adjustment, annuity options, and guaranteed insurability options.
 Guarantees: embedded floor (guaranteed return), maturity guarantee, guaranteed death benefit, and guaranteed minimum
rate of annuity payment.
 Other: indexed interest or principal payments, maturity value, loyalty bonus.
The impact of these is reflected in the economic capital model and MCEV reporting and managed as part of the asset
liability framework.
(f) General insurance risk
Types of risk
General insurance risk in the Group arises from:
 Fluctuations in the timing, frequency and severity of claims and claim settlements relative to expectations;
 Unexpected claims arising from a single source or cause;
 Inaccurate pricing of risks or inappropriate underwriting of risks when underwritten; and
 Inadequate reinsurance protection or other risk transfer techniques.
Aviva has a preference for general insurance risk in measured amounts for explicit reward, in line with our core skills in
underwriting and pricing. The majority of the general insurance business underwritten by the Group continues to be short tail
in nature such as motor, household and commercial property insurances. The Group’s underwriting strategy and appetite is
communicated via specific policy statements, related business standards and guidelines. General insurance risk is managed
primarily at business unit level with oversight at the Group level. Claims reserving is undertaken by local actuaries in the various
general insurance businesses and is also subject to periodic external reviews. Reserving processes are further detailed in note 41
‘insurance liabilities’.
The vast majority of the Group’s general insurance business is managed and priced in the same country as the domicile of
the customer.
Management of general insurance risks
Significant insurance risks will be reported under the risk management framework. Additionally, the economic capital model is
used to assess the risks that each general insurance business unit, and the Group as a whole, is exposed to, quantifying their
impact and calculating appropriate capital requirements.
Business units have developed mechanisms that identify, quantify and manage accumulated exposures to contain them within
the limits of the appetite of the Group. The business units are assisted by a Business Capability team who provide technical input
for major decisions which fall outside individual delegated limits or escalations outside group risk preferences, group risk
accumulation, concentration and profitability limits.
Reinsurance strategy
Significant reinsurance purchases are reviewed annually at both business unit and Group level to verify that the levels of protection
being bought reflect any developments in exposure and the risk appetite of the Group. The basis of these purchases is
underpinned by analysis of economic capital, earnings and capital volatility, cash flow and liquidity and the Group’s franchise value.
Detailed actuarial analysis is used to calculate the Group’s extreme risk profile and then design cost and capital efficient
reinsurance programmes to mitigate these risks to within agreed appetites. For businesses writing general insurance we analyse the
natural catastrophe exposure using external probabilistic catastrophe models widely used by the rest of the (re)insurance industry.
The Group cedes much of its worldwide catastrophe risk to third-party reinsurers but retains a pooled element for its own
account gaining diversification benefit. The total Group potential loss from its most concentrated catastrophe exposure zone
(Northern Europe) is approximately £180 million, for a one in ten year annual loss scenario, compared to approximately £280
million when measured on a one in a hundred year annual loss scenario.
(g) Asset management risk
Aviva is directly exposed to the risks associated with operating an asset management business through its ownership of Aviva
Investors. The underlying risk profile of our asset management risk is derived from investment performance, specialist investment
professionals and leadership, product development capabilities, fund liquidity, margin, client retention, regulatory developments,
fiduciary and contractual responsibilities. The risk profile is regularly monitored. Investment performance has remained strong over
2013 despite some positions being impacted by the volatility of global markets.
A client relationship team is in place to manage client retention risk, while all new asset management products undergo a
review and approval process at each stage of the product development process, including approvals from legal, compliance and
risk functions. Investment performance against client objectives relative to agreed benchmarks is monitored as part of our
investment performance and risk management process, and subject to further independent oversight and challenge by a specialist
risk team, reporting directly to the Aviva Investors’ CRO.