Does the NAIC Risk-Based Capital Suffice? And Are Property & Casualty Insurance Company Asset Allocations Rational?

This paper examines the asset allocation for a typical property & casualty insurer, and the effect of asset allocation changes on the NAIC Risk-Based Capital (RBC) requirements. The effect on performance measures such as Return on Equity (ROE), growth in capital and surplus, and the ratio of capital and surplus to RBC are studied in parallel to determine if RBC properly rewards good risk decision-making. This paper further examines the extent to which the RBC requirements favor asset or insurance risk and whether or not this is a desirable quality of RBC.