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Neuberger Berman adapts Sharpe’s ratio to insurance management and prudential risk measurement

This new risk indicator, based on a concept derived from the classic Sharpe ratio, integrates the already existing range of prudential risk measures into the analysis of the strategic asset allocation process and its optimization.

Article also available in : English EN | français FR

Neuberger Berman, a private employee-owned asset management company, now recommends the use of the "Sharpe Solvency Ratio" to its risk-constrained clients, such as insurance companies. This new risk indicator, based on a concept derived from the classic Sharpe ratio, integrates the already existing range of prudential risk measures into the analysis of the strategic asset allocation process and its optimization.

The insurance industry is facing a challenging investment environment. Thirty years ago, government bonds provided enough returns to back long-term guarantees. To maintain book yield, many insurers are shrinking the risk-free asset allocations in their investment portfolios in favor of growing allocations to alternatives. Against this background, a well-designed strategic asset allocation framework could help companies navigate risk and improve investment efficiency.

We show that the risk measure used to optimize an SAA has a substantial impact on the output, and believe that an SAA assessed with a range of risk measures is likely to exhibit superior characteristics and improved resilience against a wider range of outcomes, relative to one assessed from a narrower perspective. With that in mind, we introduce the “Solvency Sharpe Ratio” as a new risk measure for insurers’ SAA optimizations. In addition to the commonly used surplus volatility, solvency capital requirement (SCR) and tail risk measures, Neuberger Berman introduces a new risk measure for insurers: the “Solvency Sharpe Ratio” calculated by dividing surplus return by solvency ratio volatility.

Neuberger Berman’s Insurance Analytics and Insurance Solutions teams have demonstrated in a white paper that the use of this indicator offers several advantages: This measure is intuitive for all insurance company stakeholders, and show that it tends to justify a less risk-averse and more long-term-oriented SAA than other, commonly used risk measures. we show that a Solvency Sharpe Ratio optimization would result in an SAA that reduces short-term volatility and aims for better long-term performance We argue that the Solvency Sharpe Ratio encourages insurance asset allocators to focus more on diversified growth than on short-term capital consumption not caused by the insurer’s own business activities.

Matthew Malloy, Global Head of Insurance Solutions said: “The Solvency Sharpe Ratio is a useful addition to the set of risk measures an insurer can use when they are considering SAAs from multiple perspectives.”

Next Finance , March 5

Article also available in : English EN | français FR

See online : The Solvency Sharpe Ratio : Strategic Asset Allocation for Insurers

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