Insurance companies and managers are increasingly embracing stress testing, a practice that evaluates the resilience of financial systems under various adverse scenarios.
In a recent global study conducted by Ortec Finance, it has been revealed that insurers and asset managers are significantly increasing their investment in stress testing, scenario modelling, and asset-liability management (ALM). The study, which surveyed firms collectively overseeing $10.48 trillion in assets under management, highlights the key drivers and challenges behind this trend.
One of the primary motivations for this increased investment is the growing emphasis on regulatory expectations and evolving supervisory frameworks. Regulators are increasingly focusing on rigorous stress testing frameworks that integrate diverse risk factors, including emerging risks such as Environmental, Social, and Governance (ESG) risks.
Stress testing also plays a crucial role in enhancing risk management by helping insurers and asset managers identify vulnerabilities in their business models, investment portfolios, and policyholder behavior under adverse scenarios. This improved understanding of potential losses, liquidity strains, and capital adequacy under stressed conditions contributes to overall risk resilience.
Market and economic uncertainty, driven by increased volatility and complexity in financial markets, interest rate dynamics, credit risk, and macroeconomic conditions, is another key driver. In response, firms are employing scenario modelling and stress testing to anticipate and prepare for adverse developments.
Capital planning and strategic decision-making also benefit from stress testing outcomes. Stress testing informs capital buffers, investment strategies, and balance sheet management through asset-liability management techniques that align asset maturities and cash flows with liability profiles, improving financial stability during shocks.
However, expanding investment in these areas comes with challenges. Model complexity and data requirements, governance and validation, balancing transparency and proprietary considerations, and resource intensity and cost are some of the main hurdles. Developing accurate models that reflect a broad range of risks, ensuring proper model governance frameworks, protecting sensitive information, and managing the cost of implementation are critical concerns.
Despite these challenges, nearly 79% of insurers and asset managers plan to increase their budget and resources for stress testing, scenario modelling, and ALM over the next two years. Hamish Bailey, managing director UK and head of insurance and investment at Ortec Finance, noted that many insurers and investment managers plan to increase investment in these functions, reflecting what Ortec Finance is seeing in their client base.
The study by Ortec Finance focuses on risk and return management solutions, indicating an industry-wide pivot towards more sophisticated risk modelling. With increased market volatility and continued investment in complex asset classes, the need for robust risk management approaches is more pressing than ever.
Businesses in the finance sector are boosting their investment in stress testing and asset-liability management (ALM) due to regulatory expectations and evolving supervisory frameworks. Regulators are emphasizing rigorous stress testing frameworks that incorporate assorted risk factors, such as Environmental, Social, and Governance (ESG) risks.
Enhancing risk management is another reason behind the rise in investment. Stress testing allows insurers and asset managers to detect vulnerabilities in their business models, portfolios, and policyholder behavior under adverse conditions, thereby improving overall risk resilience.
