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Old 10-11-2017, 05:08 PM
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Default Stress testing

Hello,

I am currently working on stress testing for my company and I was wondering if anyone has experience working with a stress testing model and if the model is in house or from a vendor.
Do you like the model? Do you think there are things that can be done to improve the model? etc.

Thanks.
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Old 11-20-2017, 04:35 AM
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Originally Posted by ronaldy27 View Post
Hello,

I am currently working on stress testing for my company and I was wondering if anyone has experience working with a stress testing model and if the model is in house or from a vendor.
Do you like the model? Do you think there are things that can be done to improve the model? etc.

Thanks.
I think that before you begin asking about "stress testing models", you may want to take a few steps back and ensure you have a clear picture on what you are intending to do. In particular, I think you have to ask yourself what you're trying to accomplish with stress testing. Is this for ORSA purposes? To satisfy regulatory/management demands? Understand your business better and how it is affected by various economic factors?

With that in mind, you can start exploring other questions related to stress testing, including:

- What types of risk are significant to your company? (Do you write variable life/annuity business? If so, then your list of risks may be vastly different from a life company that primarily writes term insurance, or an agent-owned reinsurance company.
- Identify what type of model would work to depict a clear picture of the risks you want to test (cash-flow testing model; gross premium valuation, if you're testing reserves; ALM model if you're assessing your investment strategy/adequacy of investments and/or cash flows over a specific horizon; consider whether existing models being used in your company can be used for these purposes, with appropriate reviews and changes to assumptions as needed).
- Decide on the level of sensitivity to test, related to the key risks you identified above - this may involve quantifying your sensitivities (increasing/decreasing mortality by 20% over the life of the projection, or coming up with "low/medium/high" interest rate scenarios to test future interest-sensitive business & future reinvestment strategies).

Ultimately, I think stress testing is most valuable when key risks are identified and scenarios depicting "stress" of those variables/risks are run through models to illustrate the effect on businesses that changes in these variables/risks can have on the business. You may get some input from surveys of other companies out there of additional key risks that you may not have identified in your initial risk assessment and decide to add them later, but I don't think there exists an "out-of-the-box" model that will give you exactly which variables & risks to test for, along with preset sensitivity test levels that a company can simply use. Stress testing, IMO, is meant to be specific to a business, though many companies may employ a similar type/form of stress test (i.e., life companies will likely assess persistently low interest rates in some type of model to get an understanding of the effect of the low interest rate environment on their business, now and into the future).

But perhaps I'm misunderstanding the question.
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Old 11-21-2017, 04:09 PM
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Thank you for the reply. It's pretty lonely here in the Risk Management section of AO.

Even if one might be working with a stress testing model mainly for one purpose, he/she should do it for the purpose of all the things you mentioned. I primarily did it for the sake of updating the ORSA but I also did it to meet the requirements set by the regulations and to better assess and manage risks faced/potentially face by my company.

Currently, using a 3rd vendor model but I can see how my company can benefit from working with additional models and being able to compare different models.
As a newbie, some of my questions might come off as "too basic" or even "naive" but good responses like yours help me find a starting point for research and look into areas where I can expand my knowledge and benefit my company.
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Old 11-21-2017, 05:23 PM
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Thank you for the reply. It's pretty lonely here in the Risk Management section of AO.

Even if one might be working with a stress testing model mainly for one purpose, he/she should do it for the purpose of all the things you mentioned. I primarily did it for the sake of updating the ORSA but I also did it to meet the requirements set by the regulations and to better assess and manage risks faced/potentially face by my company.

Currently, using a 3rd vendor model but I can see how my company can benefit from working with additional models and being able to compare different models.
As a newbie, some of my questions might come off as "too basic" or even "naive" but good responses like yours help me find a starting point for research and look into areas where I can expand my knowledge and benefit my company.
It's fine to use another software platform or vendor to run models and perform stress testing, but unless there is actually a service out there that will build a financial model for you with well-documented inputs & a thorough explanation of results, what you're using is their software, and that your model is something that must be built specifically to your company and to your specific use (e.g., Economic Capital, PBA reserves/capital, EVA, etc.)

Suppose you have a software like MG-ALFA through Milliman. While they have a framework/software available for purchase that will allow you to code up your products, assets & business in a particular fashion, MG-ALFA itself is not a model. The model is what you code up and the specifications on it. There is some element of model risk with regard to the calculation engine, whether the calculations are performed correctly, but that's something for Milliman to attest to, and your responsibility to understand what it's doing.

If you're trying to do something for ORSA, it's a good idea to make sure you have a coherent message with regard to your risk management.

IMO, the overall flow of an ORSA report should be as follows:

- Identify your key risks. (Heatmap, risk assessment, deep-dive into your company's processes, etc.)
- Assess & quantify/qualify your exposure to those key risks. (If you have geographic concentration risk in the SE with hurricane losses, what level of losses are possible? What is the likelihood of those losses? What mitigating factors do you have in place that will reduce/limit those losses? This is where stress testing might enter.)
- Calculate group capital required to support those risks and attest to the availability of that capital.

As far as resources go, start with the ORSA Guidance Manual from the NAIC and start to read up on ERM & models.
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Old 11-22-2017, 10:10 AM
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It's fine to use another software platform or vendor to run models and perform stress testing, but unless there is actually a service out there that will build a financial model for you with well-documented inputs & a thorough explanation of results, what you're using is their software, and that your model is something that must be built specifically to your company and to your specific use (e.g., Economic Capital, PBA reserves/capital, EVA, etc.)

Suppose you have a software like MG-ALFA through Milliman. While they have a framework/software available for purchase that will allow you to code up your products, assets & business in a particular fashion, MG-ALFA itself is not a model. The model is what you code up and the specifications on it. There is some element of model risk with regard to the calculation engine, whether the calculations are performed correctly, but that's something for Milliman to attest to, and your responsibility to understand what it's doing.

If you're trying to do something for ORSA, it's a good idea to make sure you have a coherent message with regard to your risk management.

IMO, the overall flow of an ORSA report should be as follows:

- Identify your key risks. (Heatmap, risk assessment, deep-dive into your company's processes, etc.)
- Assess & quantify/qualify your exposure to those key risks. (If you have geographic concentration risk in the SE with hurricane losses, what level of losses are possible? What is the likelihood of those losses? What mitigating factors do you have in place that will reduce/limit those losses? This is where stress testing might enter.)
- Calculate group capital required to support those risks and attest to the availability of that capital.

As far as resources go, start with the ORSA Guidance Manual from the NAIC and start to read up on ERM & models.

Thanks a lot for the informative response!
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