In this study, we analyse the impact of Solvency II prudential regulations on property investments made by French insurers. Real estate has historically played an important role in the asset-liabil ...
Research Engineer at EDHEC Business School Financial Analysis and Accounting Research Centre.
Deputy Research Director at the EDHEC Economics Research Centre.
Professor of Finance and Accounting, Director of EDHEC Financial Analysis and Accounting Research Centre and Director of the EDHEC Executive MBA (EMBA) in Paris.
In this study, we analyse the impact of Solvency II prudential regulations on property investments made by French insurers. Real estate has historically played an important role in the asset-liability management (ALM) activities of insurance companies, given its long duration, its contribution to the diversification of portfolio risk, its ability to hedge inflation risk, and its performance. Today, the role of real estate within the ALM activities of insurers must be assessed not only against these traditional indicators, but also in line with the Solvency II regulatory capital requirement. The 25% capital charge for property investments, required by EIOPA using the British property market as a reference, is highly controversial and often regarded as one of the major obstacles impeding insurers from boosting the property share of their portfolios. It restricts the duration matching of assets and liabilities, and also hinders the diversification of assets under management.
This study presents a critical analysis of the Solvency II prudential regulation while looking at the calibration of property risk. We test the robustness of the calculations for the two key calibration elements of Solvency II: the size of the property shock (Value-at-Risk) and the correlation of real estate with other asset classes. Using several data sources and several complementary methodologies, we show that VaRs are very sensitive to the geographical area and to the nature of the property. In absolute value, figures are higher for office property and in the United Kingdom than they are for residential property and within the euro area. However, in all cases, they are still significantly lower than those used by the prudential regulator. Furthermore, we show that the property/financial assets correlation coefficients used by EIOPA are systematically overestimated, regardless of the methodology, the geographic area and the type of property in question.
Given the systematic biases identified within estimations of VaR and of correlation coefficients, this study assesses the overall impact of Solvency II calibration choices on the market solvency capital requirement (SCR). A simulation using new estimates results in a significant reduction in capital requirements (between 10% and 20% depending on the share of real estate in the portfolio). This confirms that the current calibrations used by EIOPA are a real obstacle, impeding the return of insurers to the property market.
This study was conducted in partnership with the French Ministry for Housing. DGALN - DHUP – French Bureau of Economic Studies (FE5).
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|Research Cluster :||Financial Analysis and Accounting|