Formula has been adjusted so that daily market falls do not have such an adverse affect
The FSA has relaxed resiliency tests for life insurers at a time when an increasing number are boosting their free asset ratios by taking future investment returns into account.
Recent falls in stock markets have highlighted problems with the resilience test formula, a measure of how well an insurance company can survive fluctuations in the UK equity market and still meet its liabilities, according to the UK regulator.
This has been adjusted so that individual daily market falls do not have such an adverse effect on the apparent ability of an insurer to meet its liabilities.
The FSA said it has previously temporarily suspended elements of the resilience test at times of extreme market turbulence in order to avoid forced selling by insurers and a possible downward market spiral. This is not being considered at present, it added, but the current formula for calculating resilience is being adjusted.
The relaxation in the resilience tests comes as the number of life assurance companies using future profits figures in their free asset ratio declarations, a measure of their financial health, has steadily gone up, figures from the FSA reveal.
Five years ago, only two of the major insurance companies, Guardian Assurance and Equitable Life, included anticipated future profits, or investment returns, in calculating their free asset ratios.
Guardian posted a free asset ratio of 15.1% with future profits included in the calculation. This figure reduced to 11.5% when future profits were stripped out. Equitable Life similarly increased its figure from 7.9% to 9.6%.
The number of companies using future profits in their free asset calculations doubled to four in 1998 and increased to six life insurers in 1999 and 2000. Last year saw 10 insurers use future profits in their calculations.
Mark Wood, chief executive officer at Prudential for the UK and Europe, hopes the forthcoming Sandler review will set guidelines on how free asset ratios are calculated.
He said: 'It is clear some companies are using future profits to boost their free asset ratio. For the free asset ratio to be helpful, there need to be regulatory guidelines on how it is calculated.'
Prudential does not use future profits in its free asset calculations. If a company's free asset ratio falls to 8% or below, Wood said, the FSA may become concerned and the management of the company may have to start thinking about constraining new business or looking for new capital investment.
Of the 10 insurers who used future profits in their free asset calculations last year, CGNU managed the biggest hike in its percentage, increasing the ratio from 10.8% to 14.7%.
Alasdair Buchanan, head of communications at Scottish Life, said using free asset ratio as a measurement of a company's financial health is worthless as it is only a superficial analysis of a company's position and does not take into account many other factors.
However, he did acknowledge that the free asset ratio is being used by IFAs as a measure of financial health and has become a de facto measurement despite its limitations.
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