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Canadian Institute of Actuaries L’Institut canadien des actuaires PD-22 Risk Management Outside the Insurance Canadian Institute of Actuaries L’Institut canadien des actuaires PD-22 Risk Management Outside the Insurance Industry André Choquet, FSA, FCIA General Meeting/Assemblée générale 2007, Montréal, Québec

2007 General Meeting Assemblée générale 2007 From Pension Risk Management to Enterprise Risk Management 2007 General Meeting Assemblée générale 2007 From Pension Risk Management to Enterprise Risk Management • • • Setting the Stage Inside Pension Risk Management Moving Toward Enterprise Risk Management

2007 General Meeting Assemblée générale 2007 Why do organizations have pension plans? • Optimize 2007 General Meeting Assemblée générale 2007 Why do organizations have pension plans? • Optimize human capital investment • Attract and retain labour • Ensure orderly transition of workforce ! Both workforce and organizational life cycles drive decisions about pension plans

2007 General Meeting Assemblée générale 2007 Risk measurement is evolving Unipolar Risk Bipolar Risk 2007 General Meeting Assemblée générale 2007 Risk measurement is evolving Unipolar Risk Bipolar Risk Research expenditures lead to high returns or loss of capital Compliance with regulations brings no rewards; noncompliance results in penalties Risk Volatility Greater volatility equals greater risk Value at Risk is relative to expectations Evolution Fair Price of Risk Protection offered through use of hedges

From Pension Risk Management (PRM) to Enterprise Risk Management (ERM) 2007 General Meeting Assemblée From Pension Risk Management (PRM) to Enterprise Risk Management (ERM) 2007 General Meeting Assemblée générale 2007 PRM Measure Tangible Risk Illustrate Intangible Risk How much risk? ERM Hedge or not? Implement Is risk appropriate? Monitor

2007 General Meeting Assemblée générale 2007 Pension Risk Management involves multiple parties Financial Portfolio 2007 General Meeting Assemblée générale 2007 Pension Risk Management involves multiple parties Financial Portfolio Management Benefit Delivery Benefit Policy Compliance Source: Watson Wyatt Worldwide

Pension Liability/Sharholders’ Equity 2007 General Meeting Assemblée générale 2007 How large is the plan Pension Liability/Sharholders’ Equity 2007 General Meeting Assemblée générale 2007 How large is the plan to shareholders’ equity? Source: Watson Wyatt Worldwide

2007 General Meeting Assemblée générale 2007 Solvency ratio stayed flat despite good returns Source: 2007 General Meeting Assemblée générale 2007 Solvency ratio stayed flat despite good returns Source: Watson Wyatt Worldwide

2007 General Meeting Assemblée générale 2007 Achieving 100% solvency… Source: Watson Wyatt Worldwide 2007 General Meeting Assemblée générale 2007 Achieving 100% solvency… Source: Watson Wyatt Worldwide

2007 General Meeting Assemblée générale 2007 …And remaining 100% Solvent • With a new 2007 General Meeting Assemblée générale 2007 …And remaining 100% Solvent • With a new Bond Portfolio • Using current portfolio with swaps and futures • DB Buy-out, annuity purchase

2007 General Meeting Assemblée générale 2007 How a DB Buy-out could work in Canada 2007 General Meeting Assemblée générale 2007 How a DB Buy-out could work in Canada

2007 General Meeting Assemblée générale 2007 Longevity risk difficult to hedge Source: Watson Wyatt 2007 General Meeting Assemblée générale 2007 Longevity risk difficult to hedge Source: Watson Wyatt Worldwide

2007 General Meeting Assemblée générale 2007 Not all mature plans are shifting away from 2007 General Meeting Assemblée générale 2007 Not all mature plans are shifting away from equities Plan Maturity % Compared to Equity % Source: Watson Wyatt Worldwide

Risk budgeting: A framework to allocate risk Policy (65% equity) and current structure $355 Risk budgeting: A framework to allocate risk Policy (65% equity) and current structure $355 ting $350 risk 55% equity, LB, +5% intl, +5% HY and current structure $340 ion cis $335 3 De $330 55% equity, LB, +5% intl, +5% HY and alt structure $325 $205 $210 get $345 bud PV of Contributions (10 Years) Plus Solvency Deficit ($ Million) Va. R 95 $360 Set 2007 General Meeting Assemblée générale 2007 Asset/Liability Stochastic Simulation $215 55% equity, LB, +5% intl and current structure $220 $225 55% equity, LB and current structure $230 $235 PV of Contributions (10 Years) Plus Solvency Deficit ($ Million) 50 th Percentile Source: Watson Wyatt Worldwide

2007 General Meeting Assemblée générale 2007 Risk shifts from employer… Balanced Fund Present Value 2007 General Meeting Assemblée générale 2007 Risk shifts from employer… Balanced Fund Present Value of Cumulative Net Expense ($M) - 2014 $30. 0 $20. 0 $10. 0 $0. 0 1. 5% Non-Contrib DB 1. 5% Contrib DB w 3% EE Contrib 5 th-25 th percentile 25 th-50 th 1% DB + 3% DC 50 th-75 th-95 th 6% DC Mean Source: Watson Wyatt Worldwide

…to members Annual Plan Accrual as a Percentage of Pay 2007 General Meeting Assemblée …to members Annual Plan Accrual as a Percentage of Pay 2007 General Meeting Assemblée générale 2007 2. 0% 1. 8% 1. 6% Risk for Employee at Age 40 1. 4% 1. 2% 1. 0% 0. 8% 0. 6% 0. 4% 0. 2% 0. 0% 1. 5% Non-Contrib DB 1. 5% Contrib DB w 3% EE Contrib 1% DB + 3% DC 6% DC Plan 10% 25% 50% 75% 90% Mean Source: Watson Wyatt Worldwide

2007 General Meeting Assemblée générale 2007 Defined contribution risks: Investment decisions and annuitization Relative 2007 General Meeting Assemblée générale 2007 Defined contribution risks: Investment decisions and annuitization Relative pension after 20 years of contributions as a percentage of the best outcome (Based on UK market data) Source: Watson Wyatt Worldwide

Another looming mismatch? Labour needs vs benefit design 2007 General Meeting Assemblée générale 2007 Another looming mismatch? Labour needs vs benefit design 2007 General Meeting Assemblée générale 2007 Living Standards Improvement = 1. 85% Estimated Labour Shortages End of Period (Mil) GDP (%) Labour Productivity (%) Required Labour Input (%) Labour Supply (%) 2006– 2015 2. 7 1. 5 1. 2 0. 7 1. 0 2016– 2025 2. 6 1. 5 1. 1 0. 1 2. 9 2026– 2035 2. 4 1. 5 0. 9 0. 2 4. 4 2036– 2045 2. 2 1. 5 0. 7 0. 2 Source: Watson Wyatt Worldwide 5. 7

2007 General Meeting Assemblée générale 2007 Use qualitative methods to assess other risks Compliance 2007 General Meeting Assemblée générale 2007 Use qualitative methods to assess other risks Compliance Governance Benefit Delivery

Risk Workshops 2007 General Meeting Assemblée générale 2007 Resolver*Ballot manages risk assessment workshops to Risk Workshops 2007 General Meeting Assemblée générale 2007 Resolver*Ballot manages risk assessment workshops to build consensus and provide results in real-time Risk workshop participants evaluate and prioritize risks (and controls). Results are viewed and discussed to provide clarity, then re-evaluated. Risk workshop results are reviewed by all. Source: Resolver Inc.

A holistic framework: Moving toward enterprise risk management 2007 General Meeting Assemblée générale 2007 A holistic framework: Moving toward enterprise risk management 2007 General Meeting Assemblée générale 2007 PRM Measure Tangible Risk Illustrate Intangible Risk How much risk? ERM Hedge or not? Implement Is risk appropriate? Monitor

2007 General Meeting Assemblée générale 2007 The ERM risk management process Understand Manage “Risk 2007 General Meeting Assemblée générale 2007 The ERM risk management process Understand Manage “Risk Measure comes from not knowing what you are doing” Warren Buffet

Websites and references 2007 General Meeting Assemblée générale 2007 • • PWC Saratoga Institute Websites and references 2007 General Meeting Assemblée générale 2007 • • PWC Saratoga Institute : 2006 Key Trends in Human capital Report http: //www. pwc. com/extweb/service. nsf/docid/623831886 DE 2 BC 6 A 85256 EBA 0058 B 5 C 4 Mortality Derivatives and the Option to Annuitize: M. Milevski and D. Promislow http: //papers. ssrn. com/sol 3/papers. cfm? abstract_id=289551 Revisiting CAPM Bill Sharpe "Investors and Markets: Portfolio Choices, Asset Prices and Investment Advice, " DC Risks – DC - a ticking time bomb? http: //www. watsonwyatt. com/research/whitepapers/wprender. asp? id=R M-UK-32 – SEI surveys on DC member investment behaviour. – http: //www. seic. com/institutions/cda/en/documents/EN_Research_Rep ort_1104. pdf – http: //www. seic. com/institutions/cda/en/documents/DC_Members_Suf fer_Consequences_of_Overconfidence. pdf

2007 General Meeting Assemblée générale 2007 Websites and references • E&Y Study of risk: 2007 General Meeting Assemblée générale 2007 Websites and references • E&Y Study of risk: “Risk Management in Canada: Moving Beyond Assessment” • Canadian Treasurer: “Pension Management: a job for the CFO” Feb 2006 • 2006 WW Conference Board of Canada survey: http: //www. watsonwyatt. com/canadaenglish/topics/htrender. asp? ID=15104 • WW study on labour shortages: http: //www. watsonwyatt. com/canadaenglish/pubs/specialmemoranda/showarticle. asp? Artic le. ID=16466&pdf. URL=pdf/sm 0605. pdf&articledate=9/25/2006&Component=Memora ndum • On DB Buy-out in the UK http: //www. pensioninsurancecorp. com/default. asp