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7.5 Risk profile

Annual Report 2019 > 7.5 Risk profile
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Best Pratices in PZU

The main types of risk to which the PZU Group is exposed includes credit risk (in particular risk related to bank credit portfolio), actuarial risk, market risk (in particular interest rate risk, foreign exchange risk, and risk related to financial instruments and commodities), concentration risk, operational risk, compliance risk and models risk.

When managing each type of risk, the PZU Group identifies, measures and monitors risk concentration; for the banking sector, these processes occur on the entity level, according to requirements in the sector. To meet the regulatory obligations imposed on groups identified as financial conglomerates, the PZU Group undertook numerous initiatives in 2019 to implement a model to manage risk concentration in keeping with the requirements of the Supplementary Oversight Act. The work will be continued in 2020.

7.5.1.  Credit risk and concentration risk

Credit risk is the risk of a loss or adverse change in the financial situation resulting from fluctuations in the trustworthiness and creditworthiness of issuers of securities, counterparties and all debtors, materializing through a counterparty’s default on a liability or an increase in credit spread. This definition also includes credit risk in financial insurance.

Credit risk in the PZU Group includes:

  • credit risk in banking activity, credit risk resulting from activity in the banking sector, associated mainly with the possibility that a debtor or borrower defaults on their obligations;
  • credit risk in financial insurance, credit risk resulting from activity in the financial insurance sector, related mainly to the possibility that a PZU Group customer defaults on its obligations to a third party, or a debtor/borrower defaults on its obligations to a PZU Group customer; this threat may result from failure to complete an undertaking or adverse influence of the business environment;
  • credit spread risk, the possibility of incurring a loss due to a change in the value of assets, liabilities and financial instruments resulting from a change in the level of credit spreads as compared to the term structure of interest rates of debt securities issued by the State Treasury or fluctuations of their volatility;
  • counterparty default risk, the possibility of incurring a loss as a result of unexpected default of counterparties and debtors or deterioration of their credit rating.

Concentration risk, a risk stemming from the failure to diversify an asset portfolio or from large exposure to the risk of default by a single issuer of securities or a group of related issuers.

Exposure to credit risk in the PZU Group arises directly from banking, investment activities, activity in the financial insurance and guarantee segment, reinsurance agreements, and bancassurance operations. The PZU Group distinguishes the following kinds of credit risk exposure:

  • risk of a customer defaulting against the PZU Group under contracted credits or loans (in banking activity);
  • the risk of bankruptcy of the issuer of financial instruments invested in or traded by the PZU Group, such as corporate bonds;
  • counterparty default risk, for example in reinsurance or OTC derivative instruments and bancassurance activities.
  • the risk of PZU Group customer defaulting against a third party, for example in insurance of cash receivables, insurance guarantees.

7.5.1.1.   Concentration risk arising out of lending activity

This section presents information related to lending activity of PZU Group’s banks.

To prevent adverse events that could result from excessive concentration, both Pekao and Alior Bank mitigate the concentration risk by setting limits and applying concentration standards arising from both external and internal regulations. They include the following:

  • rules for identifying areas where concentration risk arises in credit activity;
  • taking concentration into account when estimating internal capital;
  • the process of setting and updating limit levels;
  • the process of managing limits and defining actions taken if the permitted limit level is exceeded;
  • concentration risk monitoring process, including reporting;
  • oversight over the concentration risk management process.

In the process of setting and updating concentration limits, the following information is taken into account:

  •  information on the level of credit risk of limited portfolio segments and their impact on realization of assumptions related to risk appetite in terms of credit portfolio quality and capital position;
  • sensitivity of limited portfolio segments to changes in the macroeconomic environment, assessed in regular stress tests;
  • reliable economic and market information concerning each exposure concentration area, especially macroeconomic and industry ratios, information on economic trends, including the projections of interest rate levels, exchange rates, political risk analysis, ratings of governments and financial institutions;
  • reliable information about the economic situation of companies, industries, branches, economic sectors, general economic information including news on the economic and political situation of countries, as well as other information needed to evaluate concentration risk;
  • interactions between different kinds of risk, i.e. credit, market, liquidity and operational risk.

Risk analysis is performed using both an individual and a portfolio approach. Measures are undertaken to:

  • minimize credit risk for an individual loan with the assumed level of return;
  • reduce overall credit risk arising from a specific credit portfolio.

In order to minimize the risk level of a single exposure, the following is assessed every time when a loan or other credit product is granted:

  • reliability and creditworthiness, including detailed analysis of the source of exposure repayment;
  • collaterals, including review of their formal, legal and economic status, having regard to the loan to value (LTV) adequacy ratio.

In order to enhance control over the risk of individual exposures, customers are monitored regularly and appropriate measures are taken if increased risk factors are identified.

In order to minimize credit risk arising from a particular portfolio:

  • concentration limits are set and tracked;
  • early warning signs are monitored;
  • the credit portfolio is monitored regularly, with particular supervision of material credit risk parameters;
  • regular stress tests are carried out.

7.5.1.2.   Credit risk in banking activity

Risk assessment in credit process

the provision of credit products is accomplished in accordance with loan granting methodologies appropriate for a given client segment and type of product. The internal rating process in both banks constitutes a significant part of assessing credit risk of both the client and the transaction. It is an important step in the credit decision-making process for new loans and for changes of lending terms, and in monitoring loan portfolio quality. Each bank has developed its own models used in the client creditworthiness assessment process, which must be completed before a credit decision is made. The models are based on external information and on internal data. Credit products are granted in the banks in accordance with the operating procedures, whose purpose is to set out the proper steps that must be taken in the credit process, identify the units responsible for those activities and the tools to be applied.

Credit decisions are made in accordance with the existing credit decision system (with decision-making powers at specific levels matching the risk level of a particular client and transaction).

In order to conduct regular assessment of accepted credit risk and to mitigate potential losses on credit exposures, the client’s standing is monitored during the lending period by identifying early warning signals and by conducting regular individual reviews of credit exposures.

To minimize credit risk, security interests are established in line with the level of exposure to credit risk, considering recovery rate from a specific type of collateral. The establishment of a security interest does not waive the requirement to examine the client’s creditworthiness.

Collateral is taken to secure repayment of the loan amount with due interest and costs if the borrower fails to settle its due debt within the dates stipulated in a loan agreement and restructuring activities are not successful. Accepted forms of collateral include: guarantees, sureties, account freezes, registered pledges, transfers of title, assignments of receivables, assignment of credit insurance, promissory notes, mortgages, powers of attorney to bank accounts and security deposits (as special forms of collateral). The assets constituting collateral are reviewed in the credit process in terms of their legal capacity to establish effective security interest and also the recoverable amount in a possible enforcement procedure.

Scoring and credit rating

The rating scale differs by bank, client segment and transaction type. The following tables present the quality of credit portfolios for exposures covered by internal rating models. Because of the different rating models employed by Pekao and Alior Bank, the data are presented for each of the banks separately.

Permanent protection of credit portfolio quality is provided by continuous monitoring of timely service of loans and regular reviews of the financial and economic standing of clients and the value of accepted collateral. This process is applied to all credit exposures of individual and business clients.

Pekao

Individual client portfolio (unimpaired) covered by the rating model – gross carrying amount 31 December 2019 31 December 2018
Mortgage-backed residential loans 58,791 53,967
   Class 1 (0.00% <= PD < 0.06%) 10,719 10,447
   Class 2 (0.06% <= PD < 0.19%) 5,428 5,308
   Class 3 (0.19% <= PD < 0.35%) 27,294 24,380
   Class 4 (0.35% <= PD < 0.73%) 12,002 10,309
   Class 5 (0.73% <= PD < 3.50%) 1,931 2,233
   Class 6 (3.50% <= PD < 14.00%) 694 621
   Class 7 (14.00% <= PD < 100.00%) 723 669
Cash (consumer) loans 11,928 11,174
   Class 1 (0.00% <= PD < 0.09%) 876 798
   Class 2 (0.09% <= PD < 0.18%) 1,736 1,643
   Class 3 (0.18% <= PD < 0.39%) 2,958 2,740
   Class 4 (0.39% <= PD < 0.90%) 2,772 2,567
   Class 5 (0.90% <= PD < 2.60%) 1,874 1,802
   Class 6 (2.60% <= PD < 9.00%) 956 1,001
   Class 7 (9.00% <= PD < 30.00%) 466 399
   Class 8 (30.00% <= PD < 100.00%) 290 224
Renewable limits 241 275
   Class 1 (0.00% <= PD < 0.02%) 7 8
   Class 2 (0.02% <= PD < 0.11%) 50 55
   Class 3 (0.11% <= PD < 0.35%) 76 78
   Class 4 (0.35% <= PD < 0.89%) 50 61
   Class 5 (0.89% <= PD < 2.00%) 29 36
   Class 6 (2.00% <= PD < 4.80%) 19 24
   Class 7 (4.80% <= PD < 100.00%) 10 13
Total individual client segment 70,960 65,416

Corporate segment portfolio (unimpaired) covered by the rating model – gross carrying amount 31 December 2019 31 December 2018
Corporate clients 25,581 23,336
   Class 1 (0.00% <= PD < 0.14%) (2018: 0.00% <= PD < 0.15%) 276 511
   Class 2 (0.14% <= PD < 0.25%) (2018: 0.15% <= PD < 0.27%) 1,889 2,001
   Class 3 (0.25% <= PD < 0.42%) (2018: 0.27% <= PD < 0.45%) 4,132 3,708
   Class 4 (0.42% <= PD < 0.77%) (2018: 0.45% <= PD < 0.75%) 6,275 5,070
   Class 5 (0.77% <= PD < 1.42%) (2018: 0.75% <= PD < 1.27%) 5,094 4,443
   Class 6 (1.42% <= PD < 2.85%) (2018: 1.27% <= PD < 2.25%) 3,732 3,953
   Class 7 (2.85% <= PD < 6.00%) (2018: 2.25% <= PD < 4.00%) 786 1,512
   Class 8 (6.00% <= PD < 12.00%) (2018: 4.00% <= PD < 8.50%) 3,026 1,922
   Class 9 (12.00% <= PD < 100.00%) (2018: 8.50% <= PD < 100.00%) 371 216
Small and medium-sized enterprises (SMEs) 3,396 4,230
   Class 1 (0.00% <= PD < 0.06%) 20 19
   Class 2 (0.06% <= PD < 0.14%) 227 291
   Class 3 (0.14% <= PD < 0.35%) 826 913
   Class 4 (0.35% <= PD < 0.88%) 897 1,083
   Class 5 (0.88% <= PD < 2.10%) 684 874
   Class 6 (2.10% <= PD < 4.00%) 298 429
   Class 7 (4.00% <= PD < 7.00%) 147 256
   Class 8 (7.00% <= PD < 12.00%) 114 168
   Class 9 (12.00% <= PD < 22.00%) 113 92
   Class 10 (22.00% <= PD < 100.00%) 70 105
Total corporate segment 28,977 27,566

Local government units (unimpaired) covered by the rating model – gross carrying amount 31 December 2019 31 December 2018
   Class 1 (0.00% <= PD < 0.04%) 19 1
   Class 2 (0.04% <= PD < 0.06%) 242 345
   Class 3 (0.06% <= PD < 0.13%) 137 337
   Class 4 (0.13% <= PD < 0.27%) 514 348
   Class 5 (0.27% <= PD < 0.50%) 327 637
   Class 6 (0.50% <= PD < 0.80%) 572 686
   Class 7 (0.80% <= PD < 1.60%) 102 33
   Class 8 (1.60% <= PD < 100.00%) 6 18
Total local government units 1,919 2,405

Portfolio of specialized lending exposures within the meaning of CRR Regulation – unimpaired – by supervisory classes – gross carrying amount 31 December 2019 31 December 2018
High 655 1,405
Good 4,174 3,876
Satisfactory 907 797
Poor 55 14
Total 5,791 6,092

Corporate segment covered by the rating model of Pekao Bank Hipoteczny SA 31 December 2019 31 December 2018
Class 1 6 7
Class 2 27 29
Class 3 340 374
Class 4 396 335
Class 5 21 16
Total 790 761

Pekao’s portfolio 31 December 2019 31 December 2018
Gross carrying amount Write-off Net carrying amount Gross carrying amount Write-off Net carrying amount
Exposures without recognized impairment 138,960 (1,956) 137,004 127,375 (2,194) 125,181
Portfolio covered by the rating model for the individual client segment 70,960 (1,357) 69,603 65,416 (1,429) 63,987
Mortgage loans 58,791 (1,029) 57,762 53,967 (1,168) 52,799
Cash (consumer) loans 11,928 (317) 11,611 11,174 (248) 10,926
Renewable limits 241 (11) 230 275 (13) 262
Portfolio covered by the rating model for the corporate segment 28,977 (303) 28,674 27,566 (362) 27,204
Corporate clients 25,581 (241) 25,340 23,336 (268) 23,068
Small and medium-sized enterprises (SMEs) 3,396 (62) 3,334 4,230 (94) 4,136
Portfolio covered by the rating model for the local government unit segment 1,919 16 1,935 2,405 12 2,417
Corporate segment covered by the rating model of Pekao Bank Hipoteczny SA 790 (3) 787 761 (2) 759
Specialized lending exposures 5,791 (73) 5,718 6,092 (99) 5,993
Exposures not covered by the rating model 30,523 (236) 30,287 25,135 (314) 24,821
Exposures with recognized impairment 8,180 (5,454) 2,726 7,836 (5,197) 2,639
Total receivables from clients on account of impaired loans1 147,140 (7,410) 139,730 135,211 (7,391) 127,820

1 Loan receivables from clients are measured at amortized cost or at fair value through other comprehensive income

Alior Bank

31 December 2019 31 December 2018
Retail segment 28,834 26,115
   PD < 0.18% 7,672 4,375
   0.18% <= PD < 0.28% 2,411 2,672
   0.28% <= PD < 0.44% 2,315 2,687
   0.44% <= PD < 0.85% 2,773 2,643
   0.85% <= PD < 1.33% 3,221 2,872
   1.33% <= PD < 2.06% 3,320 3,106
   2.06% <= PD < 3.94% 4,524 4,560
   3.94% <= PD < 9.10% 1,431 1,737
   PD => 9.1% 994 1,094
   No scoring 173 369
Business segment 18,840 19,462
   PD < 0.28% 1 20
   0.28% <= PD < 0.44% 64 91
   0.44% <= PD < 0.85% 546 1,035
   0.85% <= PD < 1.33% 1,094 1,495
   1.33% <= PD < 2.06% 4,576 3,479
   2.06% <= PD < 3.94% 6,455 5,727
   3.94% <= PD < 9.1% 3,550 4,267
   PD => 9.1% 2,479 2,719
   Unrated 75 629
Total non past due receivables, without impairment 47,674 45,577
Non past due receivables, with impairment 1,346 853
Retail segment 58 42
Business segment 1,288 811
Total non past due receivables from clients 49,020 46,430

7.5.1.3.  Application of forbearance

Forbearance is used if a threat arises that a client may default on the terms of a contract because of the financial difficulties, including problems with the service of debt. In such a situation, the terms and conditions of the agreement can be modified to ensure that the borrower is capable of servicing debt. Changes in terms and conditions of contracts may include: reduction of interest rates, principal installment amounts, accrued interest, rescheduling of principal or interest payments.

Accounting policies for the assessment and determination of impairment losses for forborne exposures are broadly in line with the principles for determining impairment losses under IFRS 9.

The PZU Group identifies a significant increase in the credit risk of assets for which forbearance modifications have been applied for the purpose of assessing impairment in accordance with IFRS 9.

 

Loan receivables from clients 31 December 2019 31 December 2018
  Bas-ket 1 Bas-ket 2 Basket 3 POCI Total Bas-ket 1 Bas-ket 2 Basket 3 POCI Total
      Indivi-dual analysis Group analysis         Indivi-dual analysis Group analysis    
Measured at amortized cost                        
Gross forborne exposures 396 796 1,352 701 2,232 5,477 554 340 1,073 399 2,558 4,924
Impairment loss (24) (101) (415) (267) (1,456) (2,263) (31) (5) (288) (122) (1,645) (2,091)
Net forborne exposures 372 695 937 434 776 3,214 523 336 785 277 913 2,834
Measured at fair value through profit or loss 1 - - - - 1 - - - - 2 2
Total 373 695 937 434 776 3,215 523 336 785 277 915 2,836
 
Movement in net carrying amount of forborne exposures 1 January – 31 December 2019 1 January – 31 December 2018
Opening balance 2,836 2,860
Effect of implementing IFRS 9 - (43)
Adjusted value of the opening balance 2,836 2,817
Value of exposures recognized in the period 1,282 1,105
Value of exposures excluded in the period (456) (334)
Movements in impairment losses (136) (434)
Other changes (311) (318)
Total net receivables 3,215 2,836

7.5.1.4.  Credit risk arising out of investing activity

The management principles for credit risk arising from investing activity in the PZU Group are governed by a number of documents approved by supervisory boards, management boards and dedicated committees.

Credit risk exposures to respective counterparties and issuers are subject to restrictions based on exposure limits. The limits are established by dedicated committees, based on the analyses of risks associated with a given exposure and taking into account the financial standing of entities or groups of related entities and the impact of such exposures on the occurrence of concentration risk. Qualitative restrictions on exposures established by individual committees in accordance with their powers form an additional factor mitigating the credit risk and concentration risk identified in investment activities.

The limits refer to exposure limits to a single entity or a group of affiliated entities (this applies to both credit limits and concentration limits). The use of credit risk and concentration risk limits is subject to monitoring and reporting. If the limit is exceeded, appropriate actions, as defined in internal regulations, are taken.

Credit risk assessment of an entity is based on internal credit ratings (the approach to rating differs by type of entity). Ratings are based on quantitative and qualitative analyses and form one of the key elements of the process of setting exposure limits. The credit quality of counterparties and issuers is regularly monitored. One of the basic elements of monitoring is a regular update of internal ratings.

Risk units identify, measure and monitor exposure to credit risk and concentration risk related to investment activity, in particular they give opinions on requests to set exposure limits referred to individual committees.

Information on the credit quality of assets related to investing activity is presented in section 37.

Exposure to credit risk

The following tables present the credit risk exposure of individual credit risk assets in respective Fitch rating categories (if a Fitch rating was not available, it was substituted by a Standard&Poor’s rating). Credit risk exposures arising from conditional transactions are presented as an exposure to the issuer of the underlying securities.

The tables do not include loan receivables from clients and receivables due under insurance contracts. This was because these asset portfolios are very dispersed and therefore contains a significant percentage of receivables from unrated entities and individuals.

Credit risk assets as at 31 December 2019 AAA AA A BBB BB B Unrated Assets at the client’s risk Total
Debt securities measured at amortized cost – carrying amount - - 29,396 990 37 - 5,507 - 35,930
– gross carrying amount - - 29,402 991 39 - 5,584 - 36,016
– allowance for expected credit losses - - (6) (1) (2) - (77) - (86)
Debt securities measured at fair value through other comprehensive income – carrying amount 3,632 59 40,046 4,132 447 - 6,377 - 54,693
– allowance for expected credit losses1 (13) - (9) (5) (2) - (14) - (43)
Debt securities measured at fair value through profit or loss – carrying amount 2 16 3,191 169 39 26 43 1,116 4,602
Term deposits with credit institutions and buy-sell-back transactions – carrying amount - - 1,482 323 128 - 3,536 49 5,518
– gross carrying amount - - 1,482 323 128 - 3,538 49 5,520
– allowance for expected credit losses - - - - - - (2) - (2)
Loans – carrying amount - - - - 698 - 3,792 - 4,490
– gross carrying amount - - - - 699 - 3,818 - 4,517
– allowance for expected credit losses - - - - (1) - (26) - (27)
Derivatives 1,393 39 587 372 2 - 671 43 3,107
Reinsurers’ share in claims provisions - 135 657 1 - - 207 - 1,000
Reinsurance receivables - 10 29 - - - 19 - 58
Total 5,027 259 75,388 5,987 1,351 26 20,152 1,208 109,398

1 The write-off is recognized in revaluation reserve and it does not lower the carrying amount of assets.

 
Credit risk assets at 31 December 2018 AAA AA A BBB BB B Unrated Assets at the client’s risk Total
Debt securities measured at amortized cost – carrying amount - 83 27,529 1,652 - - 5,388 - 34,652
– gross carrying amount - 83 27,537 1,653 - - 5,455 - 34,728
– allowance for expected credit losses - - (8) (1) - - (67) - (76)
Debt securities measured at fair value through other comprehensive income – carrying amount 970 671 23,563 1,304 362 - 11,345 - 38,215
– allowance for expected credit losses1 - - (7) (3) (1) - (29) - (40)
Debt securities measured at fair value through profit or loss – carrying amount 49 7 10,080 463 188 - 178 1,211 12,176
Term deposits with credit institutions and buy-sell-back transactions – carrying amount - - 951 4,151 62 - 793 90 6,047
– gross carrying amount - - 951 4,151 62 - 804 90 6,058
– allowance for expected credit losses - - - - - - (11) - (11)
Loans – carrying amount - - - - 612 - 3,923 - 4,535
– gross carrying amount - - - - 613 - 3,982 - 4,595
– allowance for expected credit losses - - - - (1) - (59) - (60)
Derivatives 821 405 222 295 - 2 714 28 2,487
Reinsurers’ share in claims provisions - 149 634 - - - 135 - 918
Reinsurance receivables - 21 55 - - - 39 - 115
Total 1,840 1,336 63,034 7,865 1,224 2 22,515 1,329 99,145

1 The write-off is recognized in revaluation reserve and it does not lower the carrying amount of assets.

The table below presents credit risk coefficients used by the PZU Group to measure credit risk:

Standard&Poor’s ratings AAA AA A BBB BB B Unrated
2019 coefficient 0.70% 0.73% 1.28% 3.44% 12.22% 24.21% 20.62%
2018 coefficient 0.71% 0.76% 1.34% 3.58% 12.77% 24.95% 24.95%

The credit risk level attributable to the assets where the risk is carried by the PZU Group as at 31 December 2019 was PLN 5,535 million (as at 31 December 2018 it was PLN 6,924 million; if the coefficients of 31 December 2019 were used, the value would be PLN 5,893 million).

7.5.1.5.  Reinsurer’s credit risk in insurance activity

PZU Group enters into proportional and non-proportional reinsurance contracts aiming to reduce liabilities arising from its core business. Reinsurance is exposed to credit risk associated with the risk that a reinsurer default on its obligations.

Assessment of reinsurers’ creditworthiness is conducted based on market data, information obtained from external sources, such as Standard&Poor’s and also based on an internal model. The model divides reinsurers into several classes, depending on the estimated risk level. A reinsurer will not be accepted if its risk is higher than a pre-defined cut-off point. The acceptance is not automatic and the analysis is supplemented by assessments by reinsurance brokers. In the credit risk monitoring process, this assessment is updated on a quarterly basis.

The following tables present the credit risk of the reinsurers that cooperated with PZU Group companies.

Reinsurer Reinsurers’ share in technical provisions (net) as at 31 December 2019 Standard&Poor’s rating as at 31 December 20192
Reinsurer 1 213 A+
Reinsurer 2 189 unrated
Reinsurer 3 93 AA-
Reinsurer 4 88 AA-
Reinsurer 5 59 AA+
Reinsurer 6 50 A+
Reinsurer 7 49 AA-
Reinsurer 8 47 A
Reinsurer 9 43 AA-
Reinsurer 10 42 AA-
Others, including:1 983  
With investment-grade rating 834 BBB– or better
With sub-investment grade rating or unrated 149 BB+ or worse or unrated
Total 1,856  

1 “Others” includes reinsurers’ shares in technical provisions if their carrying amounts are lower than those presented above.
2 A.M. Best ratings were used if Standard&Poor’s rating was not available.

 
Reinsurer Reinsurers’ share in technical provisions (net) as at 31 December 2018 Standard&Poor’s rating as at 31 December 20182
Reinsurer 1 145 A+
Reinsurer 2 127 unrated
Reinsurer 3 108 AA-
Reinsurer 4 70 AA-
Reinsurer 5 66 AA-
Reinsurer 6 49 AA+
Reinsurer 7 47 A+
Reinsurer 8 41 A+
Reinsurer 9 40 AA-
Reinsurer 10 38 AA-
Others, including:1 781  
With investment-grade rating 669 BBB– or better
With sub-investment grade rating or unrated 112 BB+ or worse or unrated
Total 1,512  

1 “Others” includes reinsurers’ shares in technical provisions if their carrying amounts are lower than those presented above.
2 A.M. Best ratings were used if Standard&Poor’s rating was not available.

Counterparty risk related to reinsurance is mitigated by the fact that the PZU Group cooperates with numerous reinsurers with reliable credit ratings.

7.5.1.6.  Risk concentration in credit risk

The following table presents the concentration of PZU Group’s balance-sheet and off-balance-sheet exposures using the sections of the Polish Classification of Business Activity (PKD):

  • exposure to financial investments such as equity instruments, debt securities, loans granted buy-sell-back transactions, bank accounts and term deposits;
  • amounts of extended insurance guarantees;
  • value of loans (balance-sheet and off-balance-sheet exposure without interest, collected fees and impairment losses) less security deposits paid in cash;
  • unauthorized overdrafts in current accounts;
  • treasury limits less security deposits paid in cash, including debt securities issued by an entity from each section.

Industry segment  31 December 2019 31 December 2018
Public administration and defense 30.54% 27.92%
Financial and insurance activities 9.81% 15.83%
Manufacturing 13.20% 12.34%
Wholesale and retail trade; repair of motor vehicles 11.29% 9.88%
Real estate activities 8.07% 8.06%
Construction 4.79% 5.47%
Transportation and storage 4.62% 3.93%
Production and supply of electricity, gas, steam, hot water 4.50% 3.46%
Information and communication 2.33% 2.88%
Professional, scientific and technical activity 2.56% 2.29%
Mining and quarrying 1.01% 1.24%
Other sectors 7.28% 6.70%
Total 100.00% 100.00%
 

7.5.2.  Actuarial risk (non-life and life insurance)

Actuarial risk is the possibility of loss or of adverse change in the value of liabilities under the executed insurance agreements and insurance guarantee agreements, due to inadequate premium pricing and technical provisioning assumptions. Actuarial risk includes:

  Non-life insurance Life insurance
Longevity risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from changes in the level, trend, or volatility of mortality rates, where a decrease in the mortality rate leads to an increase in the value of insurance liabilities. X X
Expense risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from changes in the level, trend, or volatility of the expenses incurred in servicing insurance or reinsurance contracts. X X
Lapse risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from changes in the level or volatility of the rates of policy lapses, terminations, renewals and surrenders. X X
Catastrophe risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from the significant uncertainty of pricing and technical provisioning assumptions related to extreme or irregular events. X X
Premium risk – risk of inadequate estimation of tariff rates and possible deviations of written premiums from the expected level, resulting from fluctuations in the timing, frequency and severity of insured events. X n/a
Provisioning risk – risk of inadequate estimation of technical provisioning levels and the possibility of fluctuations of actual losses around their statistical average because of the stochastic nature of future claims payments. X n/a
Revision risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from fluctuations in the level, trend, or volatility of the revision rates applied to annuities, due to changes in the legal environment or health of the person insured. X n/a
Mortality risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from changes in the level, trend, or volatility of mortality rates, where an increase in the mortality rate leads to an increase in the value of insurance liabilities. n/a X
Morbidity (disability) risk – the risk of loss, or of adverse change in the value of insurance liabilities, resulting from changes in the level, trend or volatility of disability, sickness and morbidity rates. n/a X

PZU Group manages its actuarial risk among others through:

  • calculation and monitoring of adequacy of technical provisions;
  • tariff strategy, monitoring of the current estimates and evaluation of premium adequacy;
  • underwriting;
  • reinsurance.

Calculation and monitoring of adequacy of technical provisions

PZU Group manages its technical provisioning adequacy risk by using appropriate calculation methodology and by controlling provision calculation processes. The provisioning policy is based on:

  • prudent approach to the calculation of technical provisions;
  • continuity principle, which entails making no changes in the technical provisioning methodology if no significant circumstances occur to justify such changes.

For non-life insurance, the level of technical provisions is evaluated once a month and in specific circumstances (when a payment is made or new information obtained from adjusters or lawyers) their amount is updated. The historical developments and payments of technical provisions over the years are used in the current analyses of technical provisions. This analysis provides an assessment of precision of the current actuarial methods.

For life insurance products, the main sources of data used to estimate the expected frequency of claims include public statistical data (life expectancy tables) published by specialized statistical institutions and analysis of historical insurance portfolio data. Periodic statistical analysis of claim incidence are made at the level of product groups, individual insurance portfolios and properly defined homogeneous risk groups. These analyses form the basis for measuring relative incidence of events compared to publicly available statistical data. The use of appropriate statistical methodologies allows the Group to determine the significance of the statistics and where required – define and apply appropriate safety margins in the determination of technical provisions and risk measurement.

Estimation of technical provisions in the PZU Group is supervised by chief actuaries.

Tariff strategy, monitoring of current estimates and evaluation of premium adequacy

The objective of the tariff policy is to guarantee adequate level of premium (sufficient to cover current and future liabilities under in-force policies and expenditures). Along with developing a premium tariff, simulations are conducted with regard to the projected insurance profit/loss in subsequent years. Additionally, regular premium adequacy and portfolio profitability studies are carried out for each insurance type based on, among others, evaluation of the technical result on a product for a given financial year. The frequency of analyses is adjusted to the materiality of the product and possible fluctuations of its result. If the insurance history is unfavorable then measures are taken to restore the specified profitability level, which involves adjustments to premium tariffs or to the insured risk profile, through amendments to general terms of insurance.

Underwriting

For corporate and SME customers, the underwriting process is separate from the sales function. The insurance sales process to corporate customers is preceded by analysis and assessment of risk carried out by dedicated underwriting teams. The underwriting process consists of a risk acceptance system based on the assigned decision-making powers and limits.

Reinsurance

The purpose of the PZU Group’s reinsurance program in non-life insurance is to secure its core business by mitigating the risk of catastrophic events that may adversely affect the its financial position. This task is performed through obligatory reinsurance contracts supplemented by facultative reinsurance.

PZU Group limits its risk among others by way of:

  • non-proportional excess of loss treaties, which protect the portfolios against catastrophic losses (e.g. flood, cyclone);
  • non-proportional excess of loss treaties, which protect property, technical, marine, aviation, TPL (including motor TPL) portfolios against the effects of large single losses;
  • a proportional treaty, which protects the financial insurance portfolio.

Optimization of the reinsurance program in terms of protection against catastrophic claims is based on the results of internal analyses and uses third-party models.

7.5.2.1.  Exposure to actuarial risk – non-life and life insurance

Key cost ratios in non-life insurance 1 January –31 December 2019 1 January –31 December 2018
Expense ratio 25.80% 24.89%
Net loss ratio 62.10% 61.61%
Reinsurer’s retention ratio 6.53% 4.98%
Combined ratio 87.90% 86.50%

The expense ratio is the ratio of total acquisition expenses, administrative expenses, reinsurance commissions and profit participation, to the net earned premiums.

The net loss ratio is the ratio of claims and the net movement in technical provisions, to the net earned premiums.

The reinsurer’s retention ratio is the ratio of the reinsurer’s share in gross written premiums, to the gross written premiums.

The combined ratio is the ratio of the sum of acquisition expenses, administrative expenses, reinsurance commissions and profit participation, claims and net movement in technical provisions to the net earned premiums.

The following tables present the development of technical provisions and payments in successive reporting years.

Claims development in direct non-life insurance, gross (by reporting year) 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Provision at the end of the reporting period 9,381 9,870 10,989 11,783 13,312 13,163 13,181 13,990 14,975 15,627
Provision and total claim payments (from the end of the first reporting period to the end of the current reporting period, excluding payments made before the end of the first reporting period):                    
– calculated 1 year later 9,681 10,298 11,286 12,241 13,032 12,908 13,353 14,251 14,929  
– calculated 2 years later 10,192 10,753 11,958 12,180 12,719 12,922 13,500 14,281    
– calculated 3 years later 10,719 11,590 11,973 12,080 12,822 13,135 13,518      
– calculated 4 years later 11,574 11,738 11,910 12,172 13,089 13,183        
– calculated 5 years later 11,735 11,702 12,067 12,439 13,172          
– calculated 6 years later 11,795 11,871 12,340 12,536            
– calculated 7 years later 12,017 12,184 12,421              
– calculated 8 years later 12,309 12,282                
– calculated 9 years later 12,415                  
Sum total of the provision and total claim payments (from the end of the first reporting period to the end of the current reporting period, excluding payments made before the end of the first reporting period) 12,415 12,282 12,421 12,536 13,172 13,183 13,518 14,281 14,929  
Total claim payments (from the end of the first reporting period to the end of the current reporting period, excluding payments made before the end of the first reporting period) 7,701 7,214 7,018 6,681 6,601 5,924 5,258 4,461 3,111  
Provision recognized in the statement of financial position 4,714 5,068 5,403 5,855 6,571 7,259 8,260 9,820 11,818  
Difference between the provision at the end of the first year and the provision estimated at the end of the reporting period (run-off result) (3,034) (2,412) (1,432) (753) 140 (20) (337) (291) 46  
The above difference as % of provision at the end of the first year -32% -24% -13% -6% 1% 0% -3% -2% 0%  
 
Claims development in direct non-life insurance, net of reinsurance (by reporting year) 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019
Provision at the end of the reporting period 8,639 9,305 10,413 11,453 12,814 12,653 12,559 12,880 13,484 13,933
Provision and total claim payments (from the end of the first reporting period to the end of the current reporting period, excluding payments made before the end of the first reporting period):                    
– calculated 1 year later 8,838 9,731 10,722 11,787 12,525 12,355 12,576 13,066 13,362  
– calculated 2 years later 9,345 10,185 11,282 11,704 12,201 12,278 12,664 13,005    
– calculated 3 years later 9,873 10,947 11,278 11,599 12,224 12,473 12,615      
– calculated 4 years later 10,672 11,071 11,215 11,642 12,481 12,463        
– calculated 5 years later 10,818 11,047 11,326 11,891 12,515          
– calculated 6 years later 10,884 11,167 11,581 11,938            
– calculated 7 years later 11,032 11,449 11,624              
– calculated 8 years later 11,321 11,512                
– calculated 9 years later 11,392                  
Sum total of the provision and total claim payments (from the end of the first reporting period to the end of the current reporting period, excluding payments made before the end of the first reporting period) 11,392 11,512 11,624 11,938 12,515 12,463 12,615 13,005 13,362  
Total claim payments (from the end of the first reporting period to the end of the current reporting period, excluding payments made before the end of the first reporting period) 6,884 6,678 6,505 6,421 6,344 5,657 4,907 4,031 2,557  
Provision recognized in the statement of financial position 4,508 4,834 5,119 5,517 6,171 6,806 7,708 8,974 10,805  
Difference between the provision at the end of the first year and the provision estimated at the end of the reporting period (run-off result) (2,753) (2,207) (1,211) (485) 299 190 (56) (125) 122  
The above difference as % of provision at the end of the first year -32% -24% -12% -4% 2% 2% 0% -1% 1%  

Motor insurance – motor own damage (autocasco) and motor TPL – is the core component of the PZU Group’s portfolio. Both types of insurance are generally concluded for one year, in which the loss must occur for the claim to be paid out. In the case of motor own damage, the time for reporting a loss is short and it is not the source of uncertainty. Motor TPL is a whole different situation – the period for reporting losses may be up to 30 years. The level of property losses is sensitive especially to the number of litigation claims reported and court rulings awarded in respective cases. In the case of TPL insurance contracts, new types of long-tail losses arise, which makes the process of estimating technical provisions much more complicated.

Risk concentration in non-life insurance

Within actuarial risk, the PZU Group identifies concentration risk with regard to possible losses caused by natural disasters, such as, in particular, floods and cyclones. The table below presents sums insured in the specified ranges, broken down by voivodeships (for operations conducted in Poland) and countries (for foreign operations). With regard to the exposure to the risk of floods and cyclones, the risk management system in the PZU Group allows to monitor it regularly and the reinsurance program in place reduces significantly the potential net catastrophic loss levels.

 

Exposure to catastrophic losses in property insurance Sum insured (PLN million)31 December 2019 Sum insured (PLN million)31 December 2018
  0 -0.2 0.2 -0.5 0.5 -2 2 -10 10 -50 over 50 Sum 0 -0.2 0.2 -0.5 0.5 -2 2 - 10 10 -50 over50 Sum
Dolnośląskie 1.1% 1.5% 1.2% 0.6% 0.4% 2.1% 6.9% 1.1% 1.5% 1.3% 0.6% 0.4% 2.3% 7.2%
Kujawsko-Pomorskie 0.6% 0.7% 0.5% 0.4% 0.3% 1.4% 3.9% 0.6% 0.7% 0.5% 0.3% 0.3% 2.1% 4.5%
Lubelskie 0.6% 0.6% 0.3% 0.2% 0.1% 1.8% 3.6% 0.6% 0.6% 0.3% 0.2% 0.2% 1.5% 3.4%
Lubuskie 0.3% 0.3% 0.2% 0.2% 0.1% 0.4% 1.5% 0.3% 0.3% 0.2% 0.2% 0.1% 0.3% 1.4%
Łódzkie 0.7% 1.0% 0.7% 0.3% 0.3% 4.9% 7.9% 0.7% 1.1% 0.7% 0.3% 0.3% 4.6% 7.7%
Małopolskie 0.8% 1.6% 0.9% 0.5% 0.4% 1.7% 5.9% 0.8% 1.6% 0.8% 0.5% 0.4% 1.5% 5.6%
Mazowieckie 1.7% 2.5% 2.1% 0.9% 1.0% 9.6% 17.8% 1.7% 2.7% 2.1% 0.9% 0.9% 12.2% 20.5%
Opolskie 0.3% 0.4% 0.3% 0.1% 0.1% 1.2% 2.4% 0.3% 0.4% 0.3% 0.1% 0.1% 1.0% 2.2%
Podkarpackie 0.6% 0.8% 0.3% 0.2% 0.2% 0.8% 2.9% 0.6% 0.8% 0.3% 0.2% 0.2% 0.7% 2.8%
Podlaskie 0.3% 0.4% 0.3% 0.2% 0.1% 0.3% 1.6% 0.3% 0.4% 0.3% 0.2% 0.1% 0.1% 1.4%
Pomorskie 0.6% 0.9% 0.8% 0.5% 0.5% 3.8% 7.1% 0.6% 1.0% 0.8% 0.5% 0.5% 3.7% 7.1%
Śląskie 1.2% 1.5% 0.9% 0.5% 0.3% 3.3% 7.7% 1.2% 1.4% 0.9% 0.5% 0.3% 2.6% 6.9%
Świętokrzyskie 0.4% 0.5% 0.2% 0.1% 0.1% 0.8% 2.1% 0.4% 0.5% 0.2% 0.1% 0.1% 0.6% 1.9%
Warmińsko-Mazurskie 0.4% 0.4% 0.3% 0.2% 0.1% 0.6% 2.0% 0.4% 0.4% 0.3% 0.2% 0.2% 0.5% 2.0%
Wielkopolskie 1.1% 1.6% 1.3% 0.7% 0.6% 3.0% 8.3% 1.2% 1.7% 1.3% 0.7% 0.5% 2.2% 7.6%
Zachodniopomorskie 0.3% 0.4% 0.4% 0.4% 0.4% 2.8% 4.7% 0.3% 0.4% 0.4% 0.4% 0.4% 2.4% 4.3%
Lithuania and Estonia 0.8% 1.8% 2.5% 0.9% 1.2% 2.2% 9.4% 0.7% 1.7% 2.5% 0.9% 1.2% 2.3% 9.3%
Latvia 0.1% 0.6% 0.8% 0.4% 0.4% 0.8% 3.1% 0.2% 0.6% 0.7% 0.4% 0.5% 1.0% 3.4%
Ukraine 0.1% 0.0% 0.1% 0.1% 0.1% 0.6% 1.0% 0.1% 0.0% 0.0% 0.1% 0.1% 0.5% 0.8%
Norway 0.0% 0.0% 0.0% 0.0% 0.0% 0.2% 0.2% - - - - - - -
Total 12.0% 17.5% 14.1% 7.4% 6.7% 42.3% 100.0% 12.1% 17.8% 13.9% 7.3% 6.8% 42.1% 100.0%
   

Capitalized annuities

The following results do not take into account the impact of changes in valuation of investments included in provision calculations.

Impact of the change in assumptions regarding the provision for the capitalized value of annuities in non-life insurance on the net financial result and equity 31 December 2019 31 December 2018
  gross net gross net
Technical rate – increase by 0.5 p.p. 441 416 445 426
Technical rate – decrease by 1.0 p.p. (1,141) (1,080) (1,155) (1,105)
Mortality at 110% of the assumed rate 134 128 132 127
Mortality at 90% of the assumed rate (149) (143) (148) (142)

7.5.2.2.  Exposure to insurance risk – life insurance

The PZU Group has not disclosed information on the development of claims in life insurance, since uncertainty about the amount and timing of claims payments is typically resolved within one year.

Risk concentration is associated with the concentration of insurance contracts or sums insured. For traditional individual insurance products, where concentration risk is related to the possibility that an insurable event occurs or is related to the potential level of payouts arising from a single event, the risk is assessed on a case-by-case basis. The assessment includes medical risk and – in justified cases – also financial risk. Consequently, risk selection occurs (a person concluding an insurance agreement is evaluated) and the maximum acceptable risk level is defined.

In group insurance, concentration risk is mitigated by the sheer size of the contract portfolio. This significantly reduces the level of disturbances caused by the random nature of insurance history. Additionally, the collective form of a contract, under which all the persons insured have the same sum insured and coverage is an important risk-mitigating factor. Therefore, some risks within the contract portfolio are not concentrated.

In the case of group insurance contracts in which insurance cover may be adjusted at the level of individual group contracts, a simplified underwriting process is used. It is based on information about the industry in which the work establishment operates, assuming appropriate ratios of the insureds to employees in the work establishment. The insurance premiums used in such cases and appropriate mark-ups result from statistical analyses conducted by PZU Life on incidence of claims at the level of defined homogeneous risk groups, including relative frequency of events compared to public statistical data.

It should be noted that for most contracts, the claim amount is strictly defined in the insurance contract. Therefore, compared to typical non-life insurance contract, concentration risk is reduced, since single events with high claims payments are relatively rare.

Annuity products in life insurance

Impact of the change in assumptions in annuity life insurance on the net financial result and equity 31 December 2019 31 December 2018
Technical rate – decrease by 1.0 p.p. (22) (25)
Mortality at 90% of the assumed rate (10) (11)
   

Life insurance products excluding annuity products

Impact of the change in assumptions in life insurance, excluding provisions in annuity products, on the net financial result and equity 31 December 2019 31 December 2018
Technical rate – decrease by 1.0 p.p. (1,976) (2,062)
Mortality at 110% of the assumed rate (850) (869)
Morbidity and accident rate – 110% of the assumed rate (138) (143)

Effects of lapses in life insurance

Calculation of mathematical technical provisions for life insurance does not include the risk of lapses (resignations). The effects of hypothetical lapses 10% of all life insurance customers are presented below.

Item in financial statements 31 December 2019 31 December 2018
Movement in technical provisions 2,186 2,142
Claims and benefits paid (835) (803)
Movement in deferred acquisition expenses (12) (8)
Profit/loss before tax 1,339 1,331
Net financial result and equity 1,085 1,078