Practical Application of the Risk-Adjustment Return on Capital Framework

This paper applies a risk-adjusted return on capital (RAROC) framework to the financial analysis of the risk and performance of an insurance company. A case study is presented for a diversified insurer with both properly & casualty and life insurance business segments. The approach first quantifies the probability distributions of the different types of risk the institution faces: non-catastrophe liability risk, catastrophe risk, life risk, asset-liability mismatch (ALM) risk, credit risk, market risk, and operating risk. These risk type distributions are then aggregated to create an integrated risk distribution for the institution.