Enterprise Risk

Management in Life
Insurance Company
Yi Zheng
Portfolio Modeling Analyst,
Manulife Investment Division
University of Connecticut 12/3/2014

Manulife Financial Corporation operates as John Hancock in the United States, and Manulife in other parts of the world.

Agenda
What is Risk Management?
The Definition of Enterprise Risk Management (ERM)
Risk Identification (Risk Types)
Risk Measurement (Risk Quantification)
Risk Appetite (Risk Decision Making)
Risk Culture/Philosophy
Benefit of Enterprise Risk Management (ERM)
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What is Risk Management?

Definition of Risk
Risk is uncertainty
Risk includes upside volatility
Risk is deviation from expected

Risk Management
Balancing risk and reward
Balancing art and science
Balancing process and people
Risk Management is ultimately about people

Definition of Enterprise Risk Management

James Lam, Enterprise Risk Management-From Incentives
to Controls (2nd edition):

ERM is a comprehensive and integrated framework for managing

key risks in order to achieve business objectives, minimize
unexpected earning volatility, and maximize firm value.

Sim Segal, Corporate Value of Enterprise Risk

Management-The Next Step in Business Management:

The process by which companies identify, measure, manage, and
disclose all key risks to increase value to stakeholders.

Risk Identification

Risk Measurement
Three popular risk measures
Value at Risk (VaR): The amount of losses that an entity is not
expected to exceed, at a specified confidence level and period of
time (i.e. 95% 1-day VaR is a level of loss that is expected to be
exceeded only 5% of days)
Volatility: A measure that provides information about uncertainty of
returns over a defined time period (i.e. may be expressed as a
standard deviation of returns over the specified time period or the
standard deviation of tracking error vs. a specified index)
Expected Shortfall: The expected size of loss that for all losses
exceeding a defined threshold

Risk Measurement in Life Insurance Company

Three key risk measurements applied in Life Insurance
Company.

Earnings at Risk (EaR), which focuses on earnings volatility: the

amount by which quarterly earnings can be expected to vary from
plan earnings no more than a pre-defined level
Economic Capital (EC), which focuses on capital adequacy: Amount
of capital needed, together with policyholder liabilities held, to
ensure the company can fulfill all policyholder obligations under
extreme stress
Risk Based Capital (RBC) or Minimum Continuing Capital and
Surplus Requirements (MCCSR)

Risk Measurement Example

Why Risk Appetite?

Risk Portfolio in Life Insurance Company

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The Problem of Operationalizing Risk Taking

Investors and managers are faced with decisions about how
much and what types of risk to take

It is a simple concept with major execution challenges

What is the relevant universe of risk?
How can risk be measured?
Which risks do we want and how much of each?
How can the desired risk profile be achieved?

The goal of the Risk Appetite framework is to make that

operationalization possible

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Risk Appetite Framework

Establishes and defines the risk types that are relevant

(e.g., Public Equity Risk=risk from the changes in the level

the equity markets)

Define how risk will be measured (e.g., how much money

do we lose if the S&P 500 drops by 5% tomorrow)

Defines a risk appetite through quantitative limits and

qualitative statements

We want to lose no more than $100 million if the S&P 500 drops by
5% tomorrow.

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Risk Appetite by Risk Category

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Risk Categories

Key Considerations

Strategic

The business on the global market? Should we enter a new produce market (VA, LTC, etc.)?

General Interest Rates

and Interest Spreads

This risk is difficult to inherent in the products and investments. The hedging Strategy?

Public Equity

Investors have more efficient ways of taking this risk than investing in a financial institution.

Real Estate, ALDA, Credit

Benefit from this risk by subjecting to diversification, liquidity, capital impacts, liability
matching, etc.

Currency

It is difficult to get paid or hedge this risk over a long term for a global company.

Mortality and Morbidity,

P&C Claims

Obligation of Insurance Company to take this risk. Wide financial swings if key assumptions
are incorrect.

Policyholder Behavior

Experience can change quickly and hard to measure.

Operational

Unintended consequences and natural byproduct of the employees activities.

Liquidity

The ability to sell assets. Change in liquidity demand.

Risk Appetite Framework Summary

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Drivers of Risk Management

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Risk Culture/Philosophy
Traditionally, companies managed risk in organizational

silos. Market, credit, and operational risks were treated

separately and often dealt with by different individuals or
functions within an institution.

The problem is that individual risk functions measure and

report their specific risks using different methodologies and

formats.

Risk management should act like a fund manager and set

portfolio targets and risk limits to ensure appropriate
diversification and optimal portfolio returns.

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Risk Culture/Philosophy
A key barrier for many life insurance companies in

implementing ERM is that each of the financial risks within

the overall business portfolio is managed independently.
The actuarial function is responsible for estimating liability risks
arising for the companys insurance policies.
The investment group invests companys cash flows in fixed-income
and equity investments.
The interest rate risk function hedges mismatches between assets
and liabilities.

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Benefit of Enterprise Risk Management

Enterprise Risk Management (ERM) provides integrated

analyses, integrated strategies, and integrated reporting

with respect to an organization's key risks, which address
their interdependencies and aggregate exposures. In
addition, an integrated ERM framework supports the
alignment of oversight functions such as risk, audit, and
compliance. Such an alignment would rationalize risk
assessment, risk mitigation and reporting activities.

Enterprise Risk Management has three major benefits:

Increase organizational effectiveness
Better risk reporting
Improved business performance

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Benefit of Enterprise Risk Management

A life insurance company which has implemented ERM

would manage all of its liability, investment, interest rate,

and other risks as an integrated whole in order to optimize
overall risk/return. The integration of financial risks is one
step in the ERM process, while strategic, business, and
operational risks must also be considered in the overall
ERM framework.

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Thank You
Questions are Welcome

Manulife Financial Corporation operates as John Hancock in the United States, and Manulife in other parts of the world.