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Fundamental Spreads and the Matching Adjustment in light of the HMT review of the Solvency II regime for UK firms – Paper July 2022

Publication of a research paper by IFoA Matching Adjustment working party : “Fundamental Spreads and the Matching Adjustment in light of the HMT review of the Solvency II regime for UK firms”

As part of the ongoing review of Solvency II in the UK, the IFoA Matching Adjustment (MA) working party has conducted research into a key component of the MA framework – the Fundamental Spread (FS). The work began during the PRA’s Quantitative Impact Study (QIS) in the summer of 2021 and has sought to reflect updated information throughout our research in light of new information or events, such as HM Treasury’s consultation paper, the PRA discussion paper (DP 2/22) and other regulatory publications and speeches to the extent possible.

The working party’s aim was to investigate the interactions between spreads and risks retained by Matching Adjustment (MA) portfolios, and how any material interaction could be pragmatically accommodated within the MA framework, considering HMT's objectives for the SII review and the PRA’s position on the topic.

The working party revisited the intended purpose of the FS and articulated its understanding of the PRA’s concerns with the current FS. This scene-setting was augmented by a review of relevant literature from a range of sources. In considering potential pragmatic changes, the working party considered those that are more “evolutionary” in nature, representing adjustments to the current framework, and those that are more “revolutionary” in nature, with more fundamental shifts in approach. In conducting this work, the working party has considered the implications of relevant elements of Solvency II reform from a public interest perspective. The output of this work is this research paper.

While there is no single “right” answer as to the methodology that should be used for setting the FS, the working party has highlighted a range of potential adjustments that could be made as an “evolution” of the current FS construct, and more fundamental changes that would represent a “revolution” versus the status quo.

Click here for the full paper

The IFoA has also released a statement "IFoA sets out response and research to address challenges of Solvency II Review". Click here to find out more