Impact of the Risk Based Capital implementation: A case study on an insurance company in Malaysia

Abstract

In Malaysia, the Risk Based Capital (RBC) framework was issued by Bank Negara Malaysia (BNM) in April 2007. It was fully implemented on 1 January 2009. The purpose of this study was to examine the impact of the RBC implementation on an insurance company in Malaysia. Subsequently, further analysis was conducted by stress testing the company's capital impact given the adverse plausible event that the company might associate to the Market and Credit Risks. This research emphasized on three questions: what is the optimal target capital level for that particular insurance company, what will happen to the company's CAR given a change in equity market performance and will the RBC implementation give greater flexibility in managing the company's capital? The analysis was done on a quarterly basis for financial year ended 2009. The data were obtained from the company's financial statements financial year 2008-2009, Kuala Lumpur Composite Index (KLCI) for the period 1976-2008 and the Malaysian Government Securities Index (MGS). The results revealed: The Capital Adequacy Ratio (CAR) for Q1, Q2, Q3 and Q4 was 253%, 220%, 240% and 217% respectively. Even though the trend was declining, the overall CAR recorded for this company was very good as all CARs were above the BNM's supervisory target level of 130%. An insurer which CAR breaches the supervisory target will face stricter supervisory action, which may include business restriction and/or requirement for restructuring. The stress test results showed that on aggregate, the company's CAR will have a buffer between 5560% that would cover changes of assets and liabilities at 99% level of confidence. Given the significant investment flexibility accorded to each insurer, this company may exercise its own investment strategies as part of their improved governance and risk management p