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Nematrian Reference Library

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Abstract "This paper covers a number of different topics associated with dependency modelling within economic capital models. The scope is relatively wide in that we not only address such technical topics as spurious relationships and the different methods of risk aggregation including copulas, but also more general subjects such as how does one communicate the results of this modelling to the Board of directors of an insurance company. This is a difficult subject, not just because of the underlying mathematical methods employed, but more so from the perspective of setting robust and defensible model parameters. We have endeavoured throughout this paper to include as many numerical examples as possible to help in the understanding of the key points, including our discussion of model parameterisation and the communication to an insurance executive the impact of dependency on economic capital modelling results. The economic capital model can be seen as a combination of the two key components, the marginal risk distribution of each risk and the aggregation methodology which combines these into a single distribution or capital number. This paper is concerned with the aggregation part, the methods and assumptions employed and the issues arising, and not the topic of the marginal risk distributions which is equally important and complex."

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