A risk management approach to capital allocation

TL;DR

This paper introduces a new risk allocation method tailored for multi-branch insurance groups under Solvency 2, emphasizing the importance of coherent, axiomatic-based capital distribution for improved risk management.

Contribution

It proposes a novel risk allocation technique, analyzes its coherence through axioms, and explores optimal allocation strategies for insurance groups.

Findings

New risk allocation method introduced

Method's coherence validated via axiomatic approach

Guidelines for optimal capital allocation in insurance groups

Abstract

The European insurance sector will soon be faced with the application of Solvency 2 regulation norms. It will create a real change in risk management practices. The ORSA approach of the second pillar makes the capital allocation an important exercise for all insurers and specially for groups. Considering multi-branches firms, capital allocation has to be based on a multivariate risk modeling. Several allocation methods are present in the literature and insurers practices. In this paper, we present a new risk allocation method, we study its coherence using an axiomatic approach, and we try to define what the best allocation choice for an insurance group is.