The International Actuarial Association (IAA) has published a paper on Stress Testing and Scenario Analysis by the Insurance Regulation Committee.
A scenario describes a consistent future state of the world over time, resulting from a plausible and possibly adverse set of events or sequences of events. A stress test provides an assessment of an extreme scenario, usually with a severe impact on an organization, reflecting the inter-relations between its significant risks. Scenario analysis and stress testing are emerging powerful tools to assess an organization’s and a nation’s exposure to risks.
The paper provides an actuarial perspective on scenario analysis and stress testing. As part of the analysis of risks to the financial condition of an organization, these methods are essential tools for effective risk management and macro prudential oversight. They can enhance the understanding by its stakeholders of the financial vulnerability and viability of the organization.
The results of scenario analysis and stress testing can be used to enhance the risk culture of an organization; they can serve to alert decision makers to potentially inconvenient truths. They also provide a framework to enable organizations to base their business strategies and risk mitigation activities on a range of forecasts, rather than a single best-estimate projected result or an average of stochastic results.
President Kurt Wolfsdorf said, "We are glad to be able to share this paper as groups like the International Association of Insurance Supervisors and other financial regulators look to better understand and oversee systemic risk issues and complex financial organizations."
To learn more about the work of the IAA on this topic, contact the IAA Secretariat, care of the Chairperson of the Insurance Regulation Committee.
The paper is available on the IAA website under PUBLICATIONS/PAPERS.