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A.M. Best comments on NAIC rating model changes for RMBS

On November 6, 2009, the National Association of Insurance Commissioners (NAIC) announced that members had approved a proposal to develop a new model for determining regulatory capital treatment for approximately 18,000 residential mortgage backed securities (RMBS).

The proposal would result in the assignment of new NAIC rating designations for life insurer owned RMBS for the credit risk assessment charges used in the calculation of risk-based capital (RBC). Subsequently, the NAIC announced that PIMCO was selected as the third party financial modeler that will assist the state regulators in ultimately determining RBC requirements for these securities.

A.M. Best Co. notes that the NAIC proposal attempts to focus on the severity or amount of loss to be experienced by the RMBS, rather than the probability of default, which is currently captured in credit rating agency ratings on these RMBS.

In 2009, many non-agency RMBS were downgraded multiple rating levels. Under the NAIC’s current RBC calculation, these lower rated securities would be assessed higher capital charges. A.M. Best does not rate RMBS but has relied upon the ratings of these securities by other credit rating agencies in assessing capital charges in its own capital model (BCAR).

A.M. Best will continue to utilize data provided in life insurers’ statutory filings in its baseline BCAR model. Similar to states permitted practices implemented in 2008, however, A.M. Best will look through any positive impact granted by the modeling change on a proforma basis as part of BCAR stress testing.

A.M. Best will also be adding a question to the 2009 Supplemental Rating Questionnaire requesting a breakdown of insurers’ RMBS portfolio by NRSRO designations relative to the new NAIC filing classification.

This information will be analyzed to determine the extent of any benefit realized in the BCAR, noting that the proposed change in methodology offers no economic benefit to an insurer’s capital position. In general, changes in accounting that have no real impact on underlying economics do not impact ratings.

The rating company notes that any improvement in BCAR scores due solely to the NAIC change in methodology would not result in positive rating movement. In addition, it stressed that BCAR scores which fall below ratings guidelines would serve as a basis for discussion with company management.

It added that it will continue to monitor developments in this process, noting that at this juncture, many details regarding the practical implementation of the proposal have yet to be publicly disclosed.


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