Untangling complexity: A step-by-step guide to crafting optimal portfolios under the Matching Adjustment

Channels: Regulation

Companies: J.P Morgan

Partnered content

In this paper we bring together guidance and practical recommendations covering all of the key regulatory requirements for insurers building Matching Adjustment (MA) portfolios in the UK market. The MA is complex and our intention is to provide clarity and precision to the regulatory requirements which can be challenging to comprehend, especially for those new to the industry.

The process of portfolio construction is intricate and difficult to implement efficiently without the assistance of quantitative tools. The portfolio manager needs to balance the objectives of generating an attractive level of the MA, optimising the use of regulatory capital while passing the PRA's three cash flow matching tests.

We propose a methodology for the design and implementation of an efficient MA portfolio through a combination of strategic asset allocation and bottom-up security selection under a novel optimisation framework. This enables us to build diversified portfolios that satisfy the usual constraints for portfolio management while being truly optimal in maximising the regulatory benefit of the MA.

By accessing the full spectrum of core and extended global fixed income markets, we demonstrate how to deliver competitive levels of MA through public markets which reduces reliance on scarce private assets. This is helpful in supporting bulk annuity writers during this period of unparalleled growth of the pension risk transfer market.

Finally, we provide insights into the forthcoming changes to UK Solvency II being spearheaded by the UK government which will be essential to support the growing demands of the pension risk transfer on UK bulk annuity.


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