Annual Financial Report

RNS Number : 6105R

Aviva PLC

09 March 2021

 

  9 March 2021

AVIVA PLC

2020 ANNUAL REPORT AND ACCOUNTS

On 4 March 2021, Aviva plc (the "Company") released its 2020 Preliminary Results Announcement for the year ended 31 December 2020. The Company announces that it has today issued the 2020 Annual Report and Accounts.

The 2020 Annual Report and Accounts was approved by the Board on 3 March 2021 and provides information about the Company as at 31 December 2020.  

The document is available to view on the Company's website at https://www.aviva.com/investors/reports/ and copies have been submitted to the National Storage Mechanism and will shortly be available for inspection at https://data.fca.org.uk/#/nsm/nationalstoragemechanism

Printed copies of the 2020 Annual Report and Accounts will be mailed to shareholders on 25 March 2021 together with the Company's 2021 Notice of Annual General Meeting, in line with shareholder communication preferences.

The 2020 Annual Report and Accounts can be requested free of charge by shareholders from the date they are mailed to shareholders by contacting the Company's Registrar, Computershare Investor Services PLC, on 0371 495 0105 or at [e-mail], or by writing to the Group Company Secretary, Aviva plc, St Helen's, 1 Undershaft, London EC3P 3DQ.

Enquiries:

Kirsty Cooper, Group General Counsel and Company Secretary 020 7662 6646

Roy Tooley, Head of Secretariat - Corporate    [phone]

Information required under Disclosure & Transparency Rule 6.3

This announcement should be read in conjunction with the Company's preliminary results announcement issued on 4 March 2021. Together these constitute the material required by DTR 6.3 to be communicated to the media in full unedited text through a Regulatory Information Service. This material is not a substitute for reading the Company's 2020 Annual Report and Accounts. Page references in the text below refer to page numbers in the 2020 Annual Report and Accounts. 

Directors' responsibilities

The directors are responsible for preparing the Annual Report and Accounts, the Directors' Remuneration report and the financial statements in accordance with applicable law and regulations.

Company law requires the directors to prepare financial statements for each financial year. Under that law the directors have prepared the Group and parent company financial statements in accordance with IFRS adopted pursuant to Regulation (EC) No 1606/2002 as it applies in the European Union (EU). Under company law the directors must not approve the financial statements unless they are satisfied that they give a true and fair view of the state of affairs of the Group and Company and of the profit or loss for that period. In preparing these financial statements, the directors are required to:

· select suitable accounting policies and apply them consistently

· make reasonable and prudent judgements and accounting estimates

· state whether applicable IFRS adopted pursuant to Regulation (EC) No 1606/2002 as it applies in the European Union (EU) have been followed, subject to any material departures disclosed and explained in the financial statements

· prepare the financial statements on the going concern basis unless it is inappropriate to presume that the Company and Group will continue in business.

The directors are responsible for keeping adequate accounting records that are sufficient to show and explain the Company's transactions and disclose with reasonable accuracy at any time the financial position of the Company and Group and enable them to ensure that the financial statements and the Directors' Remuneration report comply with the Companies Act 2006 and, as regards the Group financial statements, Article 4 of the IAS Regulation. They are also responsible for safeguarding the assets of the Company and Group and hence for taking reasonable steps for the prevention and detection of fraud and other irregularities.

The directors are responsible for making, and continuing to make, the Company's Annual Report and Accounts available on the Company's website. Legislation in the United Kingdom governing the preparation and dissemination of financial statements may differ from legislation in other jurisdictions.

The directors consider that the Annual Report and Accounts, taken as a whole, is fair, balanced and understandable and provides the information necessary for shareholders to assess the Group's and the Company's position, performance, business model and strategy.

Each of the current directors whose names and functions are detailed in the 'Our Board of Directors' section and in the Directors' and Corporate Governance report confirm that, to the best of their knowledge: the Group financial statements, which have been prepared in accordance with IFRS adopted pursuant to Regulation (EC) No 1606/2002 as it applies in the European Union (EU), give a true and fair view of the assets, liabilities, financial position and profit of the Group; and the Strategic report and the Directors' and Corporate Governance report in this Annual report include a fair review of the development and performance of the business and the position of the Group, together with a description of the principal risks and uncertainties that it faces.

Listing Rules requirements

For the purposes of Listing Rule (LR) 9.8.4C R, the information required to be disclosed by LR 9.8.4 R can be found in the following locations:

Section in LR 9.8.4C R	Topic	Location in the Annual Report and Accounts
12	Shareholder waivers of dividends	IFRS Financial Statements - note 35
13	Shareholder waivers of future dividends	IFRS Financial Statements - note 35

By order of the Board on 3 March 2021.

Principal risks and uncertainties

In accordance with the requirements of the FCA Handbook (DTR 4.1.8) we provide a description of the principal risks and uncertainties facing the Group in note 59 to the IFRS Financial statements. More detail on the risks and uncertainties facing the Group can be found in the Risk and risk management section of the Annual Report and Accounts.

Risk and risk management

Risk management is key to Aviva's success. We accept the risks inherent to our core business lines of life, health and general insurance and asset management. We diversify these risks through our scale, the variety of the products and services we offer and the channels through which we sell them.

We receive premiums which we invest to maximise risk-adjusted returns, so that we can fulfil our promises to customers while providing a return to our shareholders.

In doing so we, have a preference for retaining those risks we believe we are capable of managing to generate a return.

Looking forward, these risks may be magnified or dampened by current and emerging external trends (including those set out in "the external environment" section) which may impact our current and longer-term profitability and viability, in particular our ability to write profitable new business.

This includes the risk of failing to adapt our business model to take advantage of these trends. The 'Principal risk trends and causal factors' table in this section describes these trends, their impact, future outlook and how we manage these risks.

How we manage risk

Rigorous and consistent risk management is embedded across the Group through our Risk Management Framework, comprising our systems of governance, risk management processes and risk appetite framework.

Our governance

This includes risk policies and business standards, risk oversight committees and roles and responsibilities. Line management in the business is accountable for risk management which, together with the risk function and internal audit, form our 'three lines of defence'. The roles and responsibilities of the Customer, Conduct and Reputation Committee, Audit and Risk Committees and management's Disclosure, Asset Liability and Operational Risk Committees in relation to the oversight of risk management and internal control is set out in the 'Directors' and Corporate Governance report' in the Annual Report and Accounts.

Our process

The processes we use to identify, measure, manage, monitor and report risks, including the use of our risk models, and stress and scenario testing, are designed to enable dynamic risk-based decision-making and effective day-to-day risk management. Having identified and measured the risks of our business, depending on our risk appetite, we either accept these risks or take action to reduce, transfer or mitigate them.

Our risk appetite framework

This refers to the risks that we select in pursuit of return on capital deployed, the risks we accept but seek to minimise and the risks we seek to avoid or transfer to third parties, including quantitative expressions of the level of risk we can support (e.g. the amount of capital we are prepared to put at risk). In 2020, we integrated climate into our risk appetite framework - see 'Our climate-related financial disclosure' for more information.

Types of risk inherent to our business model:

Risks customers transfer to us

· Life insurance risk includes longevity risk (annuity customers living longer than we expect), mortality risk (customers with life protection), expense risk (the amount it costs us to administer policies) and persistency risk (customers lapsing or surrendering their policies).

· General insurance risk arises from loss events (fire, flooding, windstorms, accidents etc). Health insurance exposes the Group to morbidity risk (the proportion of our customers falling sick) and medical expense inflation.

Risks arising from our investments

· Credit risks (actual defaults and market expectation of defaults) create uncertainty in our ability to offer a minimum investment return on our investments.

· Liquidity risk is the risk of not being able to make payments when they become due because there are insufficient assets in cash form.

· Market risks result from fluctuations in asset values, including equity prices, property prices, foreign exchange, inflation and interest rates.

Risks from our operations and other business risks

· Operational risk is the risk of direct or indirect loss, arising from inadequate or failed internal processes, people and systems, or external events including changes in the regulatory environment.

· Asset management risk is the risk of customers redeeming funds, not investing with us, or switching funds, resulting in reduced fee income.

Principal risk types

The types of risk to which the Group is exposed have not changed significantly over the year and are described in the table below. All of the risks below, and in particular operational risks, may have an adverse impact on our brand and reputation. The impact of COVID-19 on these risk types has been considered further as a spotlight in this section.

Risk type	Risk preference	Mitigation
Credit risk · Credit spread1 · Credit default	We take a balanced approach to credit and believe we have the expertise to manage it and the structural investment advantages conferred to insurers with long‑dated, relatively illiquid liabilities that enables us to earn superior investment returns.	· Risk appetites set to limit overall level of credit risk · Credit limit framework imposes limits on credit concentration by issuer, sector and type of instrument · Investment restrictions on certain sovereign and corporate exposures · Credit risk hedging programme · Specific asset de-risking
Market risk · Equity price1 · Property · Interest rate · Foreign exchange · Inflation	We actively seek some market risks as part of our investment and product strategy. We have a limited appetite for interest rate and property risks as we do not believe that these are adequately rewarded.	· Risk appetites set to limit exposures to key market risks · Active asset management and hedging in business units · Scalable Group-level equity and foreign exchange hedging programme · Pension fund active risk management · Asset and liability duration matching limits impact of interest rate changes and actions taken to manage guarantee risk, through product design
Life and health insurance risk · Longevity1 · Persistency · Mortality and morbidity · Expenses	We take measured amounts of life insurance risk provided we have the appropriate core skills in underwriting and pricing.	· Risk selection and underwriting on acceptance of new business · Longevity swaps covering pensioner-in-payment scheme liabilities · Product development and management framework that ensures products and propositions meet customer needs · Use of reinsurance on longevity risk for our annuity business, including the bulk annuity buy-in transaction with the staff pension scheme
General insurance risk · Catastrophe · Reserving (latent and non-latent) · Underwriting · Expenses	We take general insurance risk in measured amounts for explicit reward, in line with our core skills in underwriting and pricing. We have a preference for those risks that we understand well, that are intrinsically well managed and where there is a spread of risks in the same category. General insurance risk diversifies well with our Life Insurance and other risks.	· Use of reinsurance to reduce the financial impact of a catastrophe and manage earnings volatility · Application of robust and consistent reserving framework to derive best estimate with results subject to internal and external review, including independent reviews and audit reviews · Extensive use of data, financial models and analysis to improve pricing and risk selection · Underwriting appetite framework linked to delegations of authority that govern underwriting decisions and underwriting limits · Product development and management framework that ensures products and propositions meet customer needs
Liquidity risk2	The relatively illiquid nature of insurance liabilities is a potential source of additional investment return by allowing us to invest in higher yielding, but less liquid, assets such as commercial mortgages.	· Maintaining committed borrowing facilities from banks · Asset liability matching methodology develops optimal asset portfolio maturity structures in our businesses to ensure cash flows are sufficient to meet liabilities · Commercial paper issuance · Use of our limit framework covering minimum liquidity cover ratio and minimum Group Centre liquidity · Contingency funding plan in place to address liquidity funding requirements in a significant stress scenario
Asset management risk · Fund liquidity · Performance and margin · Product · Retention risks	Risks specific to asset management should generally be reduced to as low a level as is commercially sensible, on the basis that taking on these risks will rarely provide us with an upside.	· Product development and review process · Investment performance and risk management oversight and review process · Propositions based on customer needs · Client relationship teams managing client retention risk

1  Top three risks ranked by diversified Solvency II Solvency Capital Requirement

2  Not quantifiable in terms of economic capital

Risk type	Risk preference	Mitigation
Operational risk · Conduct · Legal & regulatory · People · Process · Data security · Technology · Brand and Reputation	Operational risk should generally be reduced to as low a level as is commercially sensible. Operational risk will rarely provide us with an upside.	· Application of enhanced business standards covering key processes · Our Operational Risk & Control Management Framework which includes the tools, processes and standardised reporting necessary to identify, measure, manage, monitor and report on the operational risks and the controls in place to mitigate those risks within centrally set tolerances · Enhanced scenario-based approach to determine appropriate level of capital to be held in respect of operational risks · On-going investment in simplifying our technology estate to improve the resilience and reliability of our systems and in IT security to protect ours and our customers' data

Spotlight: COVID-19 - Risk management in action

The COVID-19 pandemic has impacted all the geographic markets in which we operate and all the major risk types inherent to our business. Prior to and during the COVID-19 pandemic we have taken active risk management actions to protect our capital position, ensure continuous service to our customers and manage our risk exposures, as set out below:

Risk Type	Risk mitigation
Life insurance risks Impacted because of increased mortality and morbidity as a result of COVID-19	Individual Life Protection - Mostly reinsured and we have strict underwriting criteria that limits our exposure to cohorts of the population at highest risk of COVID-19. Group Life Protection - Potential greater net exposure, however we have taken pricing actions to limit our exposure from new business. The impact of COVID-19 on our annuity products has been limited over 2020. However, we will continue to closely monitor the impact on the future longevity experience of our portfolio.
General insurance risks Primarily impacted as a result of business interruption and travel disruption consequential to government action to contain the COVID-19 virus spread	Business interruption - Standard commercial policy wording does not provide cover for COVID-19. However, we have some exposure through broker determined wordings where we are the lead or follow insurer and many of the issues were subject to the FCA test case. The Supreme Court appeal took place on 15 January 2021, following the verdict the legal uncertainty in the UK around gross losses has been significantly reduced. Travel - COVID-19 wording has been clarified to eliminate ambiguity, pricing adjusted to ensure risk is appropriately priced and further reinsurance cover has been purchased.
Credit & Market risks Impacted as financial markets have reacted to the potential economic impact of government actions to manage the pandemic and central bank monetary policy to mitigate the impact.	As a result of the significant financial market impact of COVID-19, particularly to credit and equity markets and interest rates, we took a number of actions to reduce our exposure to credit, equity and interest rate risk across all our markets. Actions include purchasing tactical derivative hedges, asset disposals and reallocations and reducing new business sales in certain markets and products.
Operational risk Impacted by government lockdown measures to reduce the COVID-19 virus spread	Customer service - Continued service, despite increased absenteeism and childcare commitments, maintained through IT-enabled home-working and increased customer digital interaction. Financial crime - Programme of employee and customer communication and guidance undertaken in response to use of COVID-19 as a pretext for phishing activity, leading to pension and investment fraud, as well as exaggerated and fraudulent claims. New risks relating to extensive home-working - We have adapted our processes and controls to address heightened risks including cyber, data loss and occupational health to ensure these remain at an acceptable level.
Asset management risk Impacted by financial market response to COVID-19 pandemic and in particular the commercial property sector	Trading and liquidity management actions were taken within our funds, to ensure continued and uninterrupted service to our customers. However, due to the adverse impact of COVID-19 on the UK commercial property sectors, and in particular the difficulty in being able to assign values to our commercial property portfolios, we temporarily suspended our unit-linked property funds to redemptions for six months in March 2020.

 

Principal emerging trends and causal factors

This table describes the emerging trends and causal factors impacting our inherent risks, their impact, future outlook and how we take action to manage these risks. We consider the individual and aggregate impact from these trends when designing and implementing our risk management processes:

Key trends and movement	Risk management	Outlook
Economic & credit cycle - uncertainty over prospects for future macroeconomic growth, credit and current low interest rates, and the response of Central Banks, could adversely impact the valuation of our investments or credit default experience as well as the level of the returns we can offer to customers going forwards and our ability to profitably meet our promises of the past. Trend: Increasing Risks impacted: Credit risk, Market risk, Liquidity risk	We limit the sensitivity of our balance sheet to investment risks. While interest rate exposures are complex, we aim to closely duration-match assets and liabilities and take additional measures to limit interest rate risk. We hold substantial capital against market risks, and we protect our capital with a variety of hedging strategies to reduce our sensitivity to shocks. We regularly monitor our exposures and employ both formal and ad hoc processes to evaluate changing market conditions. Other actions taken in the past include reducing sales of products with guarantees and shifting our sales towards protection and unit‑linked products.	The Group remains exposed to the uncertain economic impact of COVID-19 and the decision for the UK to leave the European Union. Areas of uncertainty include: credit downgrades and defaults, interest rate reductions and falls in property prices. We continue to manage our key interest rate exposures, specifically in Italy and France. We have action plans in place to manage exposures should they move outside our risk appetites.
UK-EU relations - the nature of the UK's relationship with the EU and the EU's treatment of 3rd countries in respect of financial services has implications for our business model, in particular for our asset management and insurance businesses in the EU and how our UK and EU businesses interact. Trend: Stable Risks impacted: Operational risk	Following the end of the decision for the UK to leave the European Union transition period, in 2021 we will continue to actively monitor developments in EU policy towards 3rd countries such as the UK, which could impact our business model and identify contingent management actions to address these. Specifically in respect of: relevant financial services equivalence decisions and the implications where not granted; additional restrictions to asset management delegation rights as a non-EU manager; limitations on reinsurance back to the UK by our EU subsidiaries; limitations on outsourcing back to UK-based experts by EU subsidiaries; restrictions on use by EU insurers (including Aviva's Irish subsidiary) of UK branches for passporting; and restrictions on brokers ability to place business in the UK and restrictions over the transfer of personal data from the EU to the UK and other 3rd countries, including intra-group transfers for data processing.	EU pronouncements over recent years have expressed concerns over the systemic risk posed by dependence of the EU on critical financial infrastructure and services provided by 3rd countries, in particular the UK. Later in 2021 the EU will begin further consultations on changes to regulation of EU domiciled investment funds (AIFMD, UCITS) which may propose restrictions on delegation of asset management activities to the UK. In light of the ECJ's judgement in the Schrems II case, the EU in 2021 will also be revisiting the safeguarding of EU personal data transferred to 3rd countries such as the UK and the legal obligations on the data transferor to ensure data is protected notwithstanding the existence of standard contract clauses (SCCs).
Changes in public policy - any change in public policy (government or regulatory) could influence the demand for, and profitability of, our products. In some markets there are (or could be in the future) restrictions and controls on premium rates, rating factors and charges. Trend: Volatile Risks impacted: Operational risk	We actively engage with governments and regulators in the development of public policy and regulation. We do this to understand how public policy may change and to help ensure better outcomes for our customers and the Company. The Group's multi-channel distribution and product strategy and geographic diversification underpin the Group's adaptability to public policy risk, and often provides a hedge to the risk. For example, since the end of compulsory annuitisation in the UK, we have compensated for falling sales of individual annuities by increasing sales of other pension products - particularly bulk purchase annuities.	In the UK pressure on public finances may result in further erosion of tax relief for pension savings, and increase in Insurance Premium Tax. Also in the UK, the FCA following the conclusion of its consultation are expected to issue regulations preventing existing customers being charged higher premiums on renewal than new customers. The regulator in Ireland has expressed similar concerns over renewal pricing. In Canada, where motor premium increases are approved by provincial regulators, pressure to minimise these will persist. In Poland pension reform which could radically impact the pensions industry has been delayed until 2021, while regulatory pressure on charges on unit-linked products is likely to increase. EU intends to conclude its review of Solvency II in 2021, while at the same time we expect greater clarity on how the UK might seek to diverge from Solvency II to better suit the needs of UK insurers and policyholders. Both reviews could impact the amount of prudential capital our businesses are required to hold in the UK and EU.
New technologies & data - failure to understand and react to the impact of new technology and its effect on customer behaviour and how we distribute products could potentially result in our business model becoming obsolete. Failure to keep pace with the use of data to price more accurately and to detect insurance fraud could lead to loss of competitive advantage and underwriting losses. Trend: Increasing Risks impacted: Operational risk	Aviva continues to develop our data science capabilities to both inform and enable improvements in the customer journey, our understanding of how customers interact with us and our underwriting disciplines. Our Data Charter, now implemented across the Group, sets out our public commitment to use data responsibly and securely. Our new Group Data Strategy will provide a renewed focus to ensuring that Aviva derives increased value from the data we hold for our customers in a secure and ethical way across the Group.	Data mastery and the effective use of 'Big Data' through artificial intelligence and advanced analytics has and will continue to be a critical driver of competitive advantage for insurers. However, this will be subject to increasing regulatory scrutiny to ensure this is being done so in an ethical, transparent and secure way. The competitive threat to traditional insurers will continue to persist with the potential for big technology companies and low cost innovative digital start-ups to enter the insurance market, where previously underwriting capability, risk selection and required capital have proven to be a sufficient barrier to entry.
Climate change - potentially resulting in higher than expected weather-related claims (including business continuity claims), inaccurate pricing of general insurance risk, reputational impact from not being seen as a responsible steward/investor, as well as adversely impacting economic growth and investment markets. Trend: Increasing Risks impacted: General insurance risk, Credit risk, Market risk	'Our climate-related financial disclosure' sets out how Aviva incorporates climate-related risks and opportunities into governance, strategy, risk management, metrics (e.g. Climate Value-at-Risk) and targets. We commit to aligning our business to the 1.5°C Paris Agreement target and plan to be a Net Zero company by 2040.	Aviva considers climate change to be one of the most material long-term risks to our business model. Global average temperatures over the last five years have been the hottest on record. Despite the UNFCCC Paris agreement, the current trend of increasing CO2e emissions is expected to continue, in the absence of radical action by governments, with global temperatures likely to exceed pre-industrial levels by at least 2oC and weather events (floods, droughts, windstorms) increasing in frequency and severity. Disclosure of potential impacts against various climate scenarios and time horizons will continue to become increasingly common for all companies.
Cyber crime - criminals may attempt to access our IT systems to steal or utilise company and customer data, or plant malware viruses, in order to access customer or company funds, and/or damage our reputation and brand. Trend: Increasing Risks impacted: Operational risk	Aviva has invested significantly in cyber security introducing additional automated controls to protect our data and critical IT services. This investment has enhanced our ability to identify, detect and prevent cyber-attacks and we regularly test ourselves through our own 'red team' hackers to test our cyber defences and crisis management protocols. Aviva encourages a cyber aware culture by regularly undertaking activities such as employee phishing exercises, computer-based training and more regular communications about specific cyber threats.	In 2020 there continued to be high profile cyber security incidents for corporates in the UK and elsewhere. Cyber threat is expected to persist in 2021 with increasing levels of sophistication and industrialisation anticipated. Aviva continuously monitors the external threat environment to ensure that our cyber investment remains appropriate to mitigate the continued and changing nature of the cyber threat.
Medical advances and healthier lifestyles - these contribute to an increase in life expectancy of our annuity customers and thus future payments over their lifetime may be higher than we currently expect. Trend: Stable Risks impacted: Life insurance risk (longevity)	We monitor our own experience carefully and analyse external population data to identify emerging trends. Detailed analysis of the factors that influence mortality informs our pricing and reserving policies. We add qualitative medical expert inputs to our statistical analysis and analyse factors influencing mortality and trends in mortality by cause of death. We also use longevity swaps to hedge some of the longevity risk from the Aviva Staff Pension Scheme and longevity reinsurance for bulk purchase annuities and for some of our individual annuity business.	There is considerable uncertainty as to whether the improvements in life expectancy that have been experienced over the last 40 years will continue into the future. In particular, there is likely to be a reduced level of improvement from the two key drivers of recent improvements, smoking cessation (as you can only give up smoking once) and the use of statins in the treatment of cardiovascular disease (where the most significant benefit from use in higher risk groups has now been seen). Also, despite continued medical advances emerging, dietary changes, increasing obesity and strains on public health services have begun to slow the historical trend, leading in the UK to some significant industry-wide longevity reserve releases in recent years. In the longer term this may even result in a reversal in the trend of increasing life expectancy.
Changes in customer behaviour - will impact how customers wish to interact with us and the product offering they expect, including the exercise of options embedded in contracts already sold by us. Trend: Increasing Risks impacted: Operational risk	We listen to our customers to ensure we meet their savings, retirement and insurance needs. We also seek to improve the way we serve our customers by simplifying our interactions with them, resolving queries at their first point of contact where appropriate and enhancing our digital capabilities.	The financial impact of a recession will be felt across our customer demographic. This could include rising unemployment as government support packages end or retiree drawdown due to low interest rates and falling markets. These pressures will inevitably cause changes in customer behaviours and we maintain an agile approach with our strategy, plans, and in particular product development. We also expect regulatory scrutiny to increase to ensure we continue to serve and treat our existing customers fairly particularly those who are vulnerable.
Outsourcing - we rely on a number of outsourcing providers for business processes, customer servicing, investment operations and IT support. The failure of a critical outsourcing provider could disrupt our operations. Trend: Stable Risks impacted: Operational risk	Our businesses are required to identify business critical outsourced functions (internal and external) and for each to have exit and termination plans and business continuity and disaster recovery plans in place in the event of supplier failure, which are reviewed annually. We also carry out supplier financial stability reviews at least annually. Specific focus areas have been on contingency and exit planning.	We expect regulatory scrutiny (including PRA's CP19/30 - Outsourcing and Third Party Risk Management) of outsourcing arrangements to remain high following financial difficulties faced by some providers.
Pandemic - in an increasingly globalised world, new or mutations of existing bacteria or viruses may be difficult for stretched healthcare systems to contain, disrupting national economies and affecting our operations and the health and mortality of our customers. Trend: Increasing Risk impacted: Life Insurance risk (mortality, longevity, morbidity), General Insurance (business interruption, travel) and Operational risk.	We have contingency plans which are designed to reduce as far as possible the impact on operational service arising from mass staff absenteeism, travel restrictions and supply chain disruption caused by a pandemic, which we were able to put into action during the current COVID‑19 pandemic. We reinsure much of the mortality risk arising from our Life Protection business and hold capital to cover the risks of a 1-in-200 year pandemic event. We model extreme pandemic scenarios (e.g. a repeat of the 1918 global influenza pandemic or COVID-19). In the Group and commercial insurance business we limit our potential exposure through our policy wordings. As an investment manager and investor, we engage with companies to ensure the responsible use of antibiotics to reduce the risk that antimicrobial resistance negates the efficacy of medical treatment.	We expect the current COVID-19 pandemic to continue until an effective vaccine is fully rolled-out in 2021 or failing that the virus becomes endemic with the long-term impact on mortality and morbidity dependent on the extent natural immunity develops in the general population and the efficacy of new healthcare treatments. Going forward, trends such as global climate change, urbanisation, antimicrobial resistance and intensive livestock production are likely to increase the risk of future pandemics, while reductions in migration and international travel as a result of COVID-19 are likely to be temporary making the containment of future pandemics more challenging. We expect the experience and learnings from the current COVID-19 will improve the effectiveness of the public healthcare response to any future pandemics.

 

59 - Risk management

Risk management is key to Aviva's success. We accept the risks inherent to our core business lines of life, health and general insurance and asset management. We diversify these risks through our scale, geographic spread, the variety of the products and services we offer and the channels through which we sell them. We receive premiums which we invest to maximise risk-adjusted returns, so that we can fulfil our promises to customers while providing a return to our shareholders. In doing so we have a preference for retaining those risks we believe we are capable of managing to generate a return.

Our sustainability and financial strength are underpinned by an effective risk management process which helps us identify major risks to which we may be exposed, establish appropriate controls and take mitigating actions for the benefit of our customers and investors. The Group's risk strategy is to invest its available capital to optimise the balance between return and risk while maintaining an appropriate level of economic (i.e. risk-based) capital and regulatory capital.

The key elements of our risk management framework comprise our risk appetite; risk governance, including risk policies and business standards, risk oversight committees and roles and responsibilities; and the processes we use to identify, measure, manage, monitor and report risks, including the use of our risk models and stress and scenario testing.

The Group's overarching risk management and internal control system is actively responding to the challenges of the COVID-19 outbreak and remains intact. We are focused on ensuring that the control environment remains robust in the current operating environment.

Risk environment

During the year, the Group has been impacted by the COVID-19 pandemic through its operations, insurance products and asset holdings as well as ongoing difficult conditions in the global financial markets and the economy generally. General insurance products are impacted as a result of disruption to business and travel insured by the Group; life protection products as a result of increased mortality; savings and asset management revenues which are sensitive to asset values; and income protection, critical illness and health insurance products as a result of increased morbidity, offset by a potential reduction in annuity payments.

We have seen COVID-19 have a significant impact on the global economy and markets. Key impacts have been observed from volatile equity markets and falls in interest rates. We have taken a number of actions to reduce our exposure to equity and interest rate risk across all our markets. We have also taken a number of actions to reduce our exposure to credit spread and counterparty default risk across our major markets. The Group's balance sheet exposure has been reviewed and actions are being taken to further reduce the sensitivity to economic shocks.

The Group continues to maintain strong solvency and liquidity positions through a range of scenarios and stress testing. These scenarios allow for the potential impacts of COVID-19 both directly on operations of the Group and also the wider macroeconomic environment. Key financial actions taken in response to the crisis include significant de-risking to reduce sensitivity to equity and corporate credit spreads. We have been closely engaging with regulators in both Europe and globally on their response to COVID-19. The FCA Business Interruption test case judgement was broadly in line with expectations and reserves are not expected to materially change.

59 - Risk management continued

Risk environment continued

Risks associated with business conduct and financial crime heightened in the year with COVID-19 becoming a pretext for phishing activity, leading to pension and investment fraud. An increase in switching, churning and exaggerated or fraudulent GI claims is expected, particularly if the economic impact is prolonged. Our controls have been effectively monitoring this situation.

In the current climate, areas of increased conduct risk have been identified across the Group in relation to the financial vulnerability of our customers, product suitability and fair value. In response, our businesses have taken action to support the needs of different customer groups and we continue to work with local regulators. Steps have been taken to support our customers and their local communities, whether that be through extension of covers, additional support to customers and charitable donations.

The UK-EU Future Relationship Agreement came into effect on 1 January 2021, ending the Brexit transition period, for which the Group was fully prepared. It provides scope for managed policy divergence or maintaining alignment, if the UK chooses. The agreement will have evolving consequences in 2021 and beyond on future financial services and data regulation, UK-EU data transfers, EU market access and the UK economy which will require careful monitoring.

Aviva remains committed to supporting a low carbon economy that will improve the resilience of our economy, society and the financial system in line with the 2015 Paris Agreement target on climate change. We are acting now to mitigate and manage the impact of climate change on our business. We calculate a Climate VaR against IPCC scenarios to assess the climate-related risks and opportunities under different emission projections and associated temperature pathways. A range of different financial indicators are used to assess the impact on our investments and insurance liabilities.

The Group is in the process of implementing the new international accounting standards for insurance contracts, IFRS 17 Insurance Contracts. The impact of the adoption of IFRS 17 significantly impacts the measurement and presentation of the contracts in scope of the standard. It is now expected that the standard will apply to annual reporting periods beginning on or after 1 January 2023.

(a)  Risk management framework

For the purposes of risk identification and measurement, and aligned to Aviva's risk policies, risks are usually grouped by risk type: credit, market, liquidity, life insurance (including long-term health), general insurance (including short-term health), asset management and operational risk. Risks falling within these types may affect a number of metrics including those relating to balance sheet strength, liquidity and profit. They may also affect the performance of the products we deliver to our customers and the service to our customers and distributors, which can be categorised as risks to our brand and reputation or as conduct risk.

To promote a consistent and rigorous approach to risk management across all businesses we have a set of risk policies and business standards which set out the risk strategy, appetite, framework and minimum requirements for the Group's worldwide operations. The business Chief Executive Officers make an annual declaration supported by an opinion from the business Chief Risk Officers that the system of governance and internal controls was effective and fit for purpose for their business throughout the year.

A regular top-down key risk identification and assessment process is carried out by the risk function. This includes the consideration of emerging risks and is supported by deeper thematic reviews. This process is replicated at the business unit level. The risk assessment processes are used to generate risk reports which are shared with the relevant risk committees.

Risk models are an important tool in our measurement of risks and are used to support the monitoring and reporting of the risk profile and in the consideration of the risk management actions available. We carry out a range of stress (where one risk factor, such as equity returns, is assumed to vary) and scenario (where combinations of risk factors are assumed to vary) tests to evaluate their impact on the business and the management actions available to respond to the conditions envisaged. For those risk types managed through the holding of capital, being our principal risk types except for liquidity risk, we measure and monitor our risk profile on the basis of the Solvency II SCR.

Roles and responsibilities for risk management in Aviva are based around the 'three lines of defence model' where ownership for risk is taken at all levels in the Group. Line management in the business is accountable for risk management, including the implementation of the risk management framework and embedding of the risk culture. The risk function is accountable for quantitative and qualitative oversight and challenge of the risk identification, measurement, monitoring, management and reporting processes and for developing the risk management framework. Internal Audit provides an independent assessment of the risk framework and internal control processes.

Board oversight of risk and risk management across the Group is maintained on a regular basis through its Risk Committee and Customer, Conduct and Reputation Committee. To further align with our strategic priority to transform customer experiences, the Customer, Conduct and Reputation Committee was designated as a sub-committee of the Risk Committee. The Board has overall responsibility for determining risk appetite, which is an expression of the risk the business is willing to take. Risk appetites are set relative to capital and liquidity at Group and in the business units.

The risk management framework of a small number of our joint ventures and strategic equity holdings differs from the Aviva framework outlined in this note. We work with these entities to understand how their risks are managed and to align them, where possible, with Aviva's framework.

The types of risks to which the Group is exposed have not changed significantly during the year and remain credit, market, liquidity, life and health insurance, general insurance, asset management and operational risks. These risks are described below.

(b)  Credit risk

Credit risk is the risk of financial loss as a result of the default or failure of third parties to meet their payment obligations to Aviva, or variations in market values as a result of changes in expectations related to these risks. Credit risk is taken so that we can provide the returns required to satisfy policyholder liabilities and to generate returns for our shareholders. In general we prefer to take credit risk over equity and property risks, due to the better expected risk adjusted return, our credit risk analysis capability and the structural investment advantages conferred to insurers with long-dated, relatively illiquid liabilities.

59 - Risk management continued

(b)  Credit risk continued

Our approach to managing credit risk recognises that there is a risk of adverse financial impact resulting from fluctuations in credit quality of third parties including default, rating transition and credit spread movements. Our credit risks arise principally through exposures to debt security investments, structured asset investments, bank deposits, derivative counterparties, mortgage lending and reinsurance counterparties.

The Group manages its credit risk at business unit and Group level. All business units are required to implement credit risk management processes (including limits frameworks), operate specific risk management committees, and ensure detailed reporting and monitoring of their exposures against pre-established risk criteria. At Group level, we manage and monitor all exposures across our business units on a consolidated basis, and operate a Group limit framework that must be adhered to by all.

As a result of the financial market impact of COVID-19 we have taken a number of actions to reduce our exposure to credit spread and counterparty default risk across our major markets. Actions include purchasing tactical derivative hedges, asset disposals and reallocation and reducing new business sales in certain markets and products. We continue to monitor credit quality in our Commercial Mortgage and Equity Release Mortgage portfolios, specific de-risking actions include phased sales and credit hedging.

A detailed breakdown of the Group's current credit exposure by credit quality is shown below.

(i)  Financial exposures by credit ratings

Financial assets are graded according to current external credit ratings issued. AAA is the highest possible rating. Investment grade financial assets are classified within the range of AAA to BBB ratings. Financial assets which fall outside this range are classified as sub-investment grade. The following table provides information regarding the aggregated credit risk exposure of the Group for financial assets with external credit ratings. 'Not rated' assets capture assets not rated by external ratings agencies.

As at 31 December 2020	AAA £m	AA £m	A £m	BBB £m	Below BBB £m	Not rated £m	Carrying value including held for sale £m	Less: Assets classified as held for sale £m	Carrying value £m
Fixed maturity securities	9.7%	34.0%	21.4%	23.2%	7.3%	4.4%	216,154	(13,317)	202,837
Reinsurance assets	-	77.4%	21.0%	-	-	1.6%	13,356	(18)	13,338
Other investments	-	0.1%	0.3%	-	-	99.6%	51,627	(3,490)	48,137
Loans	9.0%	10.2%	7.9%	0.4%	-	72.5%	43,679	-	43,679
Total							324,816	(16,825)	307,991

As at 31 December 2019	AAA £m	AA £m	A £m	BBB £m	Below BBB £m	Not rated £m	Carrying value including held for sale £m	Less: Assets classified as held for sale  m	Carrying value £m
Fixed maturity securities	10.7%	34.1%	19.7%	23.0%	8.0%	4.5%	199,481	(649)	198,832
Reinsurance assets	3.3%	75.8%	9.2%	7.8%	-	3.9%	12,431	(75)	12,356
Other investments	0.2%	-	0.3%	0.1%	-	99.4%	51,935	(6,919)	45,016
Loans	18.3%	3.8%	0.1%	-	-	77.8%	38,580	(1)	38,579
Total							302,427	(7,644)	294,783

At 31 December 2020, a significant portion of assets remain investment grade in line with 2019. We have remained focused on high quality assets.

The majority of non-rated debt securities within shareholder assets are held by our businesses in the UK. Of these securities most are allocated an internal rating using a methodology largely consistent with that adopted by an external rating agency, and are considered to be of investment grade credit quality; these include £4,580 million (2019: £4,095 million) of debt securities held in our UK Life business, predominantly made up of private placements and other corporate bonds, which have been internally rated as investment grade.

The following table provides information on the Group's exposure by credit ratings to financial assets that meet the definition of 'solely payment of principal and interest' (SPPI).

As at 31 December 2020	AAA £m	AA £m	A £m	BBB £m	Below BBB £m	Not rated £m
Loans	3,920	4,468	3,453	-	-	153
Receivables	-	497	539	459	2	4,555
Accrued income & interest	-	-	-	-	-	283
Other financial assets	-	-	-	-	-	12
Total	3,920	4,965	3,992	459	2	5,003

As at 31 December 2019	AAA £m	AA £m	A £m	BBB £m	Below BBB £m	Not rated £m
Loans	7,065	1,443	-	-	-	1,071
Receivables	-	144	338	259	4	5,044
Accrued income & interest	-	-	-	-	-	265
Other financial assets	-	-	5	-	-	-
Total	7,065	1,587	343	259	4	6,380

At the period end, the Group held cash and cash equivalents of £12,576 million (2019: £15,344 million) that met the SPPI criteria, of which all (2019: £15,322 million) is placed with financial institutions with issuer ratings within the range of AAA to BBB. Further information on the extent to which unrated receivables, including those that meet the SPPI criteria, are past due may be found in section (ix) of this note.

59 - Risk management continued

(b)  Credit risk continued

(i)  Financial exposures by credit ratings continued

The Group continues to hold a series of macro credit hedges to reduce the overall credit risk exposure. The Group's maximum exposure to credit risk of financial assets, without taking collateral or these hedges into account, is represented by the carrying value of the financial instruments in the statement of financial position. These comprise debt securities, reinsurance assets, derivative assets, loans and receivables. The carrying values of these assets are disclosed in the relevant notes: financial investments (note 28), reinsurance assets (note 46), loans (note 25) and receivables (note 29). The collateral in place for these credit exposures is disclosed in note 61.

(ii)  Other investments

Other investments (including assets of operations classified as held for sale) include: unit trusts and other investment vehicles; derivative financial instruments, representing positions to mitigate the impact of adverse market movements; and other assets, including deposits with credit institutions and minority holdings in property management undertakings.

The credit quality of the underlying debt securities within investment vehicles is managed by the safeguards built into the investment mandates for these funds which determine the funds' risk profiles. At the Group level, we also monitor the asset quality of unit trusts and other investment vehicles against Group set limits.

A proportion of the assets underlying these investments are represented by equities and so credit ratings are not generally applicable. Equity exposures are managed against agreed benchmarks that are set with reference to overall appetite for market risk.

(iii)  Loans

The Group loan portfolio principally comprises:

· Policy loans which are generally collateralised by a lien or charge over the underlying policy;

· Loans and advances to banks which primarily relate to loans of cash collateral received in stock lending transactions. These loans are fully collateralised by other securities;

· Healthcare, infrastructure and PFI loans secured against healthcare, education, social housing and emergency services related premises; and

· Mortgage loans collateralised by property assets.

We use loan to value, interest and debt service cover, and diversity and quality of the tenant base metrics to internally monitor our exposures to mortgage loans. We use credit quality, based on dynamic market measures, and collateralisation rules to manage our stock lending activities.

(iv)  Credit concentration risk

The long-term and general insurance businesses are generally not individually exposed to significant concentrations of credit risk due to the regulations applicable in most markets and the Group's credit policy and limits framework, which limit investments in individual assets and asset classes. Credit concentrations are monitored as part of the regular credit monitoring process and are reported to the Group Asset Liability Committee (ALCO). With the exception of government bonds, the largest aggregated counterparty exposure within shareholder assets is to the Swiss Reinsurance Company Ltd (including subsidiaries), representing approximately 2.1% of the total shareholder assets.

(v)  Reinsurance credit exposures

The Group is exposed to concentrations of risk with individual reinsurers due to the nature of the reinsurance market and the restricted range of reinsurers that have acceptable credit ratings. The Group operates a policy to manage its reinsurance counterparty exposures, by limiting the reinsurers that may be used and applying strict limits to each reinsurer. Reinsurance exposures are aggregated with other exposures to ensure that the overall risk is within appetite. The Group Capital and Group Risk teams have an active monitoring role with escalation to the Chief Financial Officer (CFO), Chief Risk Officer (CRO), Group ALCO and the Board Risk Committee as appropriate.

The Group's largest reinsurance counterparty is Swiss Reinsurance Company Ltd (including subsidiaries). At 31 December 2020, the reinsurance asset recoverable, including debtor balances, from Swiss Reinsurance Company Ltd was £2,399 million (2019: £3,097 million).

(vi)  Securities finance

The Group has significant securities financing operations within the UK and smaller operations in some other businesses. The risks within this activity are mitigated by collateralisation and minimum counterparty credit quality requirements.

(vii)  Derivative credit exposures

The Group is exposed to counterparty credit risk through derivative trades. This risk is generally mitigated through holding collateral for most trades. Residual exposures are captured within the Group's credit management framework.

(viii) Unit-linked business

In unit-linked business the policyholder bears the direct market risk and credit risk on investment assets in the unit funds and the shareholders' exposure to credit risk is limited to the extent of the income arising from asset management charges based on the value of assets in the fund.

59 - Risk management continued

(b)  Credit risk continued

(ix)  Impairment of financial assets

In assessing whether financial assets carried at amortised cost or classified as available for sale are impaired, due consideration is given to the factors outlined in accounting policies (T) and (V). The following table provides information regarding the carrying value of financial assets subject to impairment testing that have been impaired and the ageing of those assets that are past due but not impaired. The table excludes assets carried at fair value through profit or loss and held for sale.

	Financial assets that are past due but not impaired
As at 31 December 2020	Neither past due nor impaired  m	0-3 months £m	3-6 months £m	6 months- 1 year £m	Greater than 1 year £m	Financial assets that have been impaired £m	Carrying value £m
Fixed maturity securities	1,573	-	-	6	-	-	1,579
Reinsurance assets	9,478	-	-	-	-	-	9,478
Other investments	1	-	-	-	-	-	1
Loans	13,840	-	-	-	-	-	13,840
Receivables and other financial assets	9,326	18	-	8	-	-	9,352

	Financial assets that are past due but not impaired
As at 31 December 2019	Neither past due nor impaired £m	0-3 months  m	3-6 months £m	6 months- 1 year £m	Greater than 1 year £m	Financial assets that have been impaired £m	Carrying value £m
Fixed maturity securities	1,455	-	-	6	-	-	1,461
Reinsurance assets	8,361	-	-	-	-	-	8,361
Other investments	2	-	-	-	-	-	2
Loans	10,260	-	-	-	-	-	10,260
Receivables and other financial assets	8,911	51	14	10	9	-	8,995

Excluded from the tables above are financial and reinsurance assets carried at fair value through profit or loss that are not subject to impairment testing, as follows: £214,575 million of debt securities (2019: £198,020 million), £42,320 million of other investments (2019: £44,836 million), £29,839 million of loans (2019: £28,319 million) and £3,860 million of reinsurance assets (2019: £4,006 million).

Where assets have been classed as 'past due and impaired', an analysis is made of the risk of default and a decision is made whether to seek to mitigate the risk. There were no material financial assets included in the tables that would have been past due or impaired had the terms not been renegotiated.

(c)  Market risk

Market risk is the risk of adverse financial impact resulting, directly or indirectly from fluctuations in interest rates, inflation, foreign currency exchange rates, equity and property prices. Market risk arises in business units due to fluctuations in both the value of liabilities and the value of investments held. At Group level, it also arises in relation to the overall portfolio of international businesses and in the value of investment assets owned directly by the shareholders. We actively seek some market risks as part of our investment and product strategy. However, we have limited appetite for interest rate risk as we do not believe it is adequately rewarded.

The management of market risk is undertaken at business unit and at Group level. Businesses manage market risks locally using the Group market risk framework and within local regulatory constraints. Group Capital is responsible for monitoring and managing market risk at the Group level and has established criteria for matching assets and liabilities to limit the impact of mismatches due to market movements.

In addition, where the Group's long-term savings businesses have written insurance and investment products where the majority of investment risks are borne by its policyholders, these risks are managed in line with local regulations and marketing literature, in order to satisfy the policyholders' risk and reward objectives. The Group writes unit-linked business in a number of its operations. The shareholders' exposure to market risk on this business is limited to the extent that income arising from asset management charges is based on the value of assets in the fund.

As a result of the significant financial market impact of COVID-19, particularly to equity markets and interest rates, we have taken a number of actions to reduce our exposure to equity and interest rate risk across all our markets. Actions include purchasing tactical derivative hedges, asset disposals and reallocations and reducing new business sales in certain markets and products. We are also exposed to the potential impact of increased defaults and downgrades on our commercial mortgage loans although we maintain conservative loan-to-value across this portfolio. Our capital position includes an allowance for the expected potential impacts from downgrades and defaults.

The most material types of market risk that the Group is exposed to are described below.

(i)  Equity price risk

The Group is subject to direct equity price risk arising from changes in the market values of its equity securities portfolio. Our most material indirect equity price risk exposures are to policyholder unit-linked funds, which are exposed to a fall in the value of the fund thereby reducing the fees we earn on those funds, and participating contracts, which are exposed to a fall in the value of the funds thereby increasing our costs for policyholder guarantees. We also have some equity exposure in shareholder funds through equities held to match inflation-linked liabilities.

We continue to limit our direct equity exposure in line with our risk preferences. At a business unit level, investment limits and local investment regulations require that business units hold diversified portfolios of assets thereby reducing exposure to individual equities. The Group does not have material holdings of unquoted equity securities.

59 - Risk management continued

(c)  Market risk continued

(i)  Equity price risk continued

Equity risk is also managed using a variety of derivative instruments, including futures and options. Businesses actively model the performance of equities through the use of risk models, in particular to understand the impact of equity performance on guarantees, options and bonus rates. An equity hedging strategy remains in place to help control the Group's overall direct and indirect exposure to equities. At 31 December 2020 the Group continues to hold a series of macro equity hedges to reduce the overall shareholder equity risk exposure.

Sensitivity to changes in equity prices is given in section (i) Risk and capital management, below.

(ii)  Property price risk

The Group is subject to property price risk directly due to holdings of investment properties in a variety of locations worldwide and indirectly through investments in mortgages and mortgage backed securities. Investment in property is managed at business unit level, and is subject to local regulations on investments, liquidity requirements and the expectations of policyholders.

As at 31 December 2020, no material derivative contracts had been entered into to mitigate the effects of changes in property prices. Exposure to property risk on equity release mortgages from sustained underperformance in the UK House Price Index (HPI) is mitigated by capping loan to value on origination at low levels and regularly monitoring the performance of the mortgage portfolio.

Sensitivity to changes in property prices is given in section (i) Risk and capital management, below.

(iii)  Interest rate risk

Interest rate risk arises primarily from the Group's investments in long-term debt and fixed income securities and their movement relative to the value placed on the insurance liabilities. A number of policyholder product features have an influence on the Group's interest rate risk. The major features include guaranteed surrender values, guaranteed annuity options, and minimum surrender and maturity values. Details of material guarantees and options are given in note 45.

Exposure to interest rate risk is monitored through several measures that include duration, capital modelling, sensitivity testing and stress and scenario testing. The impact of exposure to sustained low interest rates is considered within our scenario testing.

The Group typically manages interest rate risk by investing in fixed interest securities which closely match the interest rate sensitivity of the liabilities where such investments are available. In particular, a key objective is to at least match the duration of our annuity liabilities with assets of the same duration, and in some cases where appropriate cash flow matching has been used. These assets include corporate bonds, residential mortgages and commercial mortgages. Should they default before maturity, it is assumed that the Group can reinvest in assets of a similar risk and return profile, which is subject to market conditions. Interest rate risk is also managed in some business units using a variety of derivative instruments, including futures, options, swaps, caps and floors.

Some of the Group's products, principally participating contracts, expose us to the risk that changes in interest rates will impact on profits through a change in the interest spread (the difference between the amounts that we are required to pay under the contracts and the investment income we are able to earn on the investments supporting our obligations under those contracts). Markets where Aviva is primarily exposed to this risk are the UK, France, Italy and some other Asian business units.

The low interest rate environment in a number of markets around the world has resulted in our current investment yields being lower than the overall current portfolio yield, primarily in our investments in fixed income securities. We anticipate that interest rates may remain below historical averages for an extended period of time and that financial markets may continue to have periods of high volatility. Investing activity will continue to decrease the portfolio yield as long as market yields remain below the current portfolio level. We expect the decline in portfolio yield will result in lower net investment income in future periods.

Other product lines of the Group, such as protection, are not significantly sensitive to interest rate or market movements. For unit-linked business, the shareholder margins emerging are typically a mixture of annual management fees and risk/expense charges. Risk and expense margins will be largely unaffected by low interest rates. Annual management fees may increase in the short term as the move towards low interest rates increases the value of unit funds. However, in the medium term, unit funds will grow at a lower rate which will reduce fund charges. For the UK annuities business, interest rate exposure is mitigated by closely matching the duration of liabilities with assets of the same duration.

The UK participating business includes contracts with features such as guaranteed surrender values, guaranteed annuity options, and minimum surrender and maturity values. These liabilities are managed through duration matching of assets and liabilities and the use of derivatives, including swaptions. As a result, the Group's exposure to sustained low interest rates on this portfolio is not material. The Group's key exposure to low interest rates arises through its other participating contracts, principally in Italy and France. Some of these contracts also include features such as guaranteed minimum bonuses, guaranteed investment returns and guaranteed surrender values. In a low interest rate environment there is a risk that the yield on assets might not be sufficient to cover these obligations. For certain of its participating contracts the Group is able to amend guaranteed crediting rates. Our ability to lower crediting rates may be limited by competition, bonus mechanisms and contractual arrangements.

 

59 - Risk management continued

(c)  Market risk continued

(iii)  Interest rate risk continued

Details of material guarantees and options are given in note 45. In addition, the following table summarises the weighted average minimum guaranteed crediting rates and weighted average book value yields on assets as at 31 December 2020 for our Italian and French participating contracts, where the Group's key exposure to sustained low interest rates arises.

	Weighted average minimum guaranteed crediting rate	Weighted average book value yield on assets	Participating contract liabilities £m
France	0.69%	1.94%	72,620
Italy	0.20%	3.40%	23,941
Other1	N/A	N/A	45,237
Total	N/A	N/A	141,798

1  'Other' includes UK participating business

Profit before tax on General Insurance and Health Insurance business is generally a mixture of insurance, expense and investment returns. The asset portfolio is invested primarily in fixed income securities. The portfolio investment yield and average total invested assets in our general insurance and health business are set out in the table below.

	Portfolio investment yield1	Average  assets  m
2018	2.28%	14,651
2019	2.21%	14,350
2020	1.88%	15,023

1  Before realised and unrealised gains and losses and investment expenses

The nature of the business means that prices in certain circumstances can be increased to maintain overall profitability. This is subject to the competitive environment in each market. To the extent that there are further falls in interest rates the investment yield would be expected to decrease further in future periods.

Sensitivity to changes in interest rates is given in section (i) Risk and capital management, below.

(iv)  Inflation risk

Inflation risk arises primarily from the Group's exposure to general insurance claims inflation, to inflation linked benefits within the defined benefit staff pension schemes and within the UK annuity portfolio and to expense inflation. Increases in long-term inflation expectations are closely linked to long-term interest rates and so are frequently considered with interest rate risk. Exposure to inflation risk is monitored through capital modelling, sensitivity testing and stress and scenario testing. The Group typically manages inflation risk through its investment strategy and, in particular, by investing in inflation linked securities and through a variety of derivative instruments, including inflation linked swaps.

(v)  Currency risk

The Group has minimal exposure to currency risk from financial instruments held by business units in currencies other than their functional currencies, as nearly all such holdings are backing either unit-linked or with-profits contract liabilities or are hedged. As a result the foreign exchange gains and losses on investments are largely offset by changes in unit-linked and with-profits liabilities and fair value changes in derivatives attributable to changes in foreign exchange rates recognised in the income statement.

The Group operates internationally and as a result is exposed to foreign currency exchange risk arising from fluctuations in exchange rates of various currencies. Approximately 50% (2019: 58%) of the Group's premium income arises in currencies other than sterling and the Group's net assets are denominated in a variety of currencies, of which the largest are sterling, euro and Canadian dollars. The Group does not hedge foreign currency revenues as these are substantially retained locally to support the growth of the Group's business and meet local regulatory and market requirements. However, the Group does use foreign currency forward contracts to hedge planned dividends from its subsidiaries.

Businesses aim to maintain sufficient assets in local currency to meet local currency liabilities, however movements may impact the value of the Group's consolidated shareholders' equity which is expressed in sterling. This aspect of foreign exchange risk is monitored and managed centrally, against pre-determined limits. These exposures are managed by aligning the deployment of regulatory capital by currency with the Group's regulatory capital requirements by currency. Currency borrowings and derivatives are used to manage exposures within the limits that have been set. Except where the Group has applied net investment hedge accounting (see note 60(a)), foreign exchange gains and losses on foreign currency borrowings are recognised in the income statement, whereas foreign exchange gains and losses arising on consolidation from the translation of assets and liabilities of foreign subsidiaries are recognised in other comprehensive income. At 31 December 2020 and 2019, the Group's net assets by currency including assets 'held for sale' was:

	Sterling £m	Euro £m	CAD$ £m	Other £m	Total £m
Net assets at 31 December 2020	16,438	2,374	635	1,113	20,560
Net assets at 31 December 2019	16,036	819	397	1,433	18,685

59 - Risk management continued

(c)  Market risk continued

(v)  Currency risk continued

A 10% change in sterling to euro/CAD$ period-end foreign exchange rates would have had the following impact on net assets.

	10% increase in sterling / euro rate  m	10% decrease in sterling / euro rate £m	10% increase in sterling / CAD$ rate £m	10% decrease in sterling / CAD$ rate  m
Net assets at 31 December 2020	(237)	237	(64)	64
Net assets at 31 December 2019	(82)	82	(40)	40

The balance sheet changes arise from retranslation of business unit statements of financial position from their functional currencies into sterling, with above movements being taken through the currency translation reserve. These balance sheet movements in exchange rates therefore have no impact on profit.

A 10% change in sterling to euro/CAD$ average foreign exchange rates applied to translate foreign currency profits would have had the following impact on profit before tax, including resulting gains and losses on foreign exchange hedges.

	10% increase in sterling/ euro rate £m	10% decrease in sterling/ euro rate £m	10% increase in sterling/ CAD$ rate £m	10% decrease in sterling/ CAD$ rate £m
Impact on profit before tax 31 December 2020	(48)	59	(31)	37
Impact on profit before tax 31 December 2019	(67)	82	(18)	22

Net asset and profit before tax figures are stated after taking account of the effect of currency hedging activities.

(vi)  Derivatives risk

Derivatives are used by a number of the businesses. Derivatives are primarily used for efficient investment management, risk hedging purposes, or to structure specific retail savings products. Activity is overseen by the Group Capital and Group Risk teams, which monitor exposure levels and approve large or complex transactions.

The Group applies strict requirements to the administration and valuation processes it uses and has a control framework that is consistent with market and industry practice for the activity that is undertaken.

(vii) Correlation risk

The Group recognises that lapse behaviour and potential increases in consumer expectations are sensitive to and interdependent with market movements and interest rates. These interdependencies are taken into consideration in the internal capital model and in scenario analysis.

(d)  Liquidity risk

Liquidity risk is the risk of not being able to make payments as they become due because there are insufficient assets in cash form. The relatively illiquid nature of insurance liabilities is a potential source of additional investment return by allowing us to invest in higher yielding, but less liquid assets such as commercial mortgages and infrastructure loans. The Group seeks to ensure that it maintains sufficient financial resources to meet its obligations as they fall due through the application of a Group liquidity risk policy and business standard and through the development of its liquidity risk management plan. At Group and business unit level, there is a liquidity risk appetite which requires that sufficient liquid resources be maintained to cover net outflows in a stress scenario. In addition to the existing liquid resources and expected inflows, the Group maintains significant undrawn committed borrowing facilities (£1,700 million) from a range of leading international banks to further mitigate this risk.

A cautious approach on cash remittances is being taken across the Group with some markets retaining cash rather than remitting to Group in the wake of the unprecedented challenges COVID-19 presents for businesses, households and customers, and the adverse and highly uncertain impact on the global economy.

Maturity analyses

The following tables show the maturities of our insurance and investment contract liabilities, and of the financial and reinsurance assets held to meet them. A maturity analysis of the contractual amounts payable for borrowings and non-hedge derivatives is given in notes 52 and 60, respectively. Contractual obligations under leases and capital commitments are given in note 23 and note 56.

(i)  Analysis of maturity of insurance and investment contract liabilities

For non-linked insurance business, the following table shows the gross liability at 31 December 2020 and 2019 analysed by remaining duration. The total liability is split by remaining duration in proportion to the cash-flows expected to arise during that period, as permitted under IFRS 4, Insurance Contracts.

Almost all linked business and non-linked investment contracts may be surrendered or transferred on demand. For such contracts, the earliest contractual maturity date is therefore the current statement of financial position date, for a surrender amount approximately equal to the current statement of financial position liability. However, we expect surrenders, transfers and maturities to occur over many years, and therefore the tables below reflect the expected cash flows for these contracts, rather than their contractual maturity date. This table includes amounts held for sale.

 

59 - Risk management continued

(d)  Liquidity risk continued

(i)  Analysis of maturity of insurance and investment contract liabilities continued

As at 31 December 2020	Total £m	On demand or within 1 year £m	1-5 years £m	5-15 years  m	Over 15 years  m
Long-term business
Insurance contracts - non-linked	116,352	8,433	26,288	43,385	38,246
Investment contracts - non-linked	78,024	4,348	17,555	32,203	23,918
Linked business	178,932	8,187	27,420	58,411	84,914
General insurance and health	17,596	7,413	7,260	2,325	598
Total contract liabilities	390,904	28,381	78,523	136,324	147,676

As at 31 December 2019	Total  m	On demand or within 1 year £m	1-5 years £m	5-15 years £m	Over 15 years £m
Long-term business
Insurance contracts - non-linked	111,731	8,811	27,184	41,728	34,008
Investment contracts - non-linked	74,641	5,978	19,532	28,313	20,818
Linked business	177,448	16,226	26,002	58,601	76,619
General insurance and health	16,656	7,136	6,665	2,258	597
Total contract liabilities	380,476	38,151	79,383	130,900	132,042

(ii)  Analysis of maturity of financial assets

The following table provides an analysis, by maturity date of the principal, of the carrying value of financial assets which are available to fund the repayment of liabilities as they crystallise. This table excludes assets held for sale.

As at 31 December 2020	Total  m	On demand or within 1 year £m	1-5 years  m	Over 5 years £m	No fixed term £m
Fixed maturity securities	202,837	50,488	45,917	106,432	-
Equity securities	100,404	-	-	-	100,404
Other investments	48,137	39,681	126	7,469	861
Loans	43,679	14,049	4,339	25,290	1
Cash and cash equivalents	16,900	16,900	-	-	-
	411,957	121,118	50,382	139,191	101,266

As at 31 December 2019	Total £m	On demand or within 1 year £m	1-5 years £m	Over 5 years £m	No fixed term £m
Fixed maturity securities	198,832	42,644	47,983	106,981	1,224
Equity securities	99,570	-	-	-	99,570
Other investments	45,016	38,817	25	5,365	809
Loans	38,579	9,641	4,643	24,293	2
Cash and cash equivalents	19,524	19,524	-	-	-
	401,521	110,626	52,651	136,639	101,605

The assets above are analysed in accordance with the earliest possible redemption date of the instrument at the initiation of the Group. Where an instrument is transferable back to the issuer on demand, such as most unit trusts or similar types of investment vehicle, it is included in the 'On demand or within 1 year' column. Debt securities with no fixed contractual maturity date are generally callable at the option of the issuer at the date the coupon rate is reset under the contractual terms of the instrument. The terms for resetting the coupon are such that we expect the securities to be redeemed at this date, as it would be uneconomic for the issuer not to do so, and for liquidity management purposes we manage these securities on this basis. The first repricing and call date is normally ten years or more after the date of issuance. Most of the Group's investments in equity securities and fixed maturity securities are market traded and therefore, if required, can be liquidated for cash at short notice.

 

59 - Risk management continued

(e)  Life insurance risk

Life insurance risk in the Group arises through its exposure to mortality risk and exposure to worse than anticipated operating experience on factors such as persistency levels, exercising of policyholder options and management and administration expenses. The Group chooses to take measured amounts of life risk provided that the relevant business has the appropriate core skills to assess and price the risk and adequate returns are available. The Group's underwriting strategy and appetite is communicated via specific policy statements, related business standards and guidelines. Life insurance risk is managed primarily at business unit level with oversight at the Group level.

We have reinsurance in place across all our markets to reduce our net exposure to potential losses. In the UK we have extensive quota share reinsurance in place on Individual Protection business and for UK Group Life protection business we have surplus reinsurance for large individual claims.

The impact of COVID-19 on the profile of our life insurance risks, primarily longevity, persistency, mortality and expense risk, has been limited during 2020. We track the potential longer term impacts from the pandemic (e.g. morbidity impacts). We are also exposed to longevity risk through the Aviva Staff Pension Scheme, to which our economic exposure has been reduced since 2014 by entering into a longevity swap covering approximately £5 billion of pensioner in payment scheme liabilities. Longevity risk remains the Group's most significant life insurance risk. We purchased reinsurance for longevity risk for our annuity business, including the bulk annuity buy-in transaction with the Aviva Staff Pension scheme (see note 51). Group has continued to write considerable volumes of life protection business, and to utilise reinsurance to reduce exposure to potential losses. More generally, life insurance risks are believed to provide a significant diversification against other risks in the portfolio. Life insurance risks are modelled within the internal capital model and subject to sensitivity and stress and scenario testing.

In all of our markets, underwriting procedures on Individual Life Protection products limit our exposure to cohorts of the population at highest risk of COVID-19. While we have greater potential net exposure through Group Life Protection, we have taken pricing actions to limit our potential exposure from new business. We expect there to be some offset to increased protection claims as a result of COVID-19 from technical provision releases on our UK annuity portfolio

The assumption and management of life and health insurance risks is governed by the Group-wide business standards covering underwriting, pricing, product design and management, in-force management, claims handling, and reinsurance. The individual life and health insurance risks are managed as follows:

· Mortality and morbidity risks are mitigated by use of reinsurance. The Group allows businesses to select reinsurers, from those approved by the Group, based on local factors, but retains oversight of the overall exposures and monitors that the aggregation of risk ceded is within credit risk appetite.

· Longevity risk and internal experience analysis are monitored against the latest external industry data and emerging trends. While individual businesses are responsible for reserving and pricing for annuity business, the Group monitors the exposure to this risk and any associated capital implications. The Group has used reinsurance solutions to reduce the risks from longevity and continually monitors and evaluates emerging market solutions to mitigate this risk further.

· Persistency risk is managed at a business unit level through frequent monitoring of company experience, and benchmarked against local market information. Generally, persistency risk arises from customers lapsing their policies earlier than has been assumed. Where possible the financial impact of lapses is reduced through appropriate product design. Businesses also implement specific initiatives to improve the retention of policies which may otherwise lapse. The Group has developed guidelines on persistency management.

· Expense risk is primarily managed by the business units through the assessment of business unit profitability and frequent monitoring of expense levels.

Embedded derivatives

The Group is exposed to the risk of changes in policyholder behaviour due to the exercise of options, guarantees and other product features embedded in its long-term savings products. These product features offer policyholders varying degrees of guaranteed benefits at maturity or on early surrender, along with options to convert their benefits into different products on pre-agreed terms. The extent of the impact of these embedded derivatives differs considerably between business units and exposes Aviva to changes in policyholder behaviour in the exercise of options as well as market risk.

Examples of each type of embedded derivative affecting the Group are:

· Options: call, put, surrender and maturity options, guaranteed annuity options, options to cease premium payment, options for withdrawals free of market value adjustment, annuity options, and guaranteed insurability options.

· Guarantees: embedded floor (guaranteed return), maturity guarantee, guaranteed death benefit, and guaranteed minimum rate of annuity payment; and

· Other: indexed interest or principal payments, maturity value, loyalty bonus.

The impact of these is reflected in the capital model and managed as part of the asset liability framework. Further disclosure on financial guarantees and options embedded in contracts and their inclusion in insurance and investment contract liabilities is provided in note 44.

 

59 - Risk management continued

(f)  General insurance and health risk

The Group writes a balanced portfolio of general insurance risk (including personal motor; household; commercial motor; property and liability) across a geographically diversified spread of markets, as well as global exposure to corporate specialty risks. This risk is taken on, in line with our underwriting and pricing expertise, to provide an appropriate level of return for an acceptable level of risk. Underwriting discipline and a robust governance process is at the core of the Group's underwriting strategy.

The Group's health insurance business (including private health insurance, critical illness cover, income protection and personal accident insurance, as well as a range of corporate healthcare products) exposes the Group to morbidity risk (the proportion of our customers falling sick) and medical expense inflation.

Provisions made for insurance liabilities are inherently uncertain. Due to this uncertainty, general and health insurance reserves are regularly reviewed by qualified and experienced actuaries at the business unit and Group level in accordance with the Group's reserving framework. These and other key risks, including the occurrence of unexpected claims from a single source or cause and inadequate reinsurance protection/risk transfer, are subject to an overarching risk management framework and various mechanisms to govern and control our risks and exposures. We recognise that the severity and frequency of weather-related events has the potential to adversely impact provisions for insurance liabilities and our earnings, with the result that there is some seasonality in our results from period to period. Large catastrophic (CAT) losses arising as a result of these events are explicitly considered in our economic capital modelling to ensure we are resilient to such CAT scenarios.

We continue to closely monitor the impact of COVID-19 on our General insurance and health business. Our exposures, together with mitigants, are:

· Business Interruption: For the significant majority of the Group's UK General Insurance commercial policies, where policy wordings are determined by the company, cover is based on a specified list of diseases. These policies exclude business interruption due to new and emerging diseases, like COVID-19. Business interruption losses stemming from the current COVID-19 outbreak are therefore not covered under the significant majority of policies but there is a risk that litigation will be required to provide legal clarity in terms of the events and the cover provided under broker determined business interruption policy wordings where we are the lead or follow insurer and many of the issues were subject to the outcome of the FCA test case. Judgement in the FCA test case was received on 15 September 2020 and followed by the Supreme Court appeal on 15 January 2021. Following the verdict the legal uncertainty in the UK around gross losses has been significantly reduced. In order to provide clarity to policyholders and mitigate exposure to future events of a similar nature, exclusions have been added to relevant policy wordings at renewal. In Canada, we are party to a number of litigation proceedings challenging coverage under certain policies; however, we do not believe there is coverage under these policies. In Ireland, the vast majority of commercial insurance products do not respond to business interruption losses arising from the COVID-19 pandemic. In respect of broker-led wordings, Ireland continues to assess developments arising from the changing nature of Government restrictions and the outcome of both the FCA case and test case litigation in the local market.

· Travel Insurance: We are potentially exposed to claims due to travel cancellation, disruption and sickness where this is insured by the Group, primarily in the UK. We are only exposed to losses after recoveries have been made from travel providers (e.g. tour operators or airlines) and agents. Travel disruption is not part of our Aviva UK Direct cover and was removed as a policy option on 9 March but is included as standard in the majority of the added value accounts with our banking partners. COVID-19 wording has been clarified to eliminate ambiguity, pricing adjusted to ensure risk is appropriately priced and further reinsurance cover has been purchased. These costs are offset by reduced claims frequency as a result of the current low levels of international travel, and are also partially mitigated through profit commission and future pricing agreements with distribution partners.

· Other: There have also been impacts in other product lines as a result of reduced economic activity, for example there has been a reduction in claims frequency and a change in the severity of claims on motor lines. Private health insurance claims were also lower than expected levels in 2020 as a result of the disruption caused by the COVID-19 pandemic, and in the UK we provided a fair value pledge to policyholders to recognise the ongoing uncertainty around the ability to access treatment.

The Group purchases reinsurance protections on its property portfolio that includes coverage for business interruption and will seek reinsurance recoveries of those of its business interruption losses that are covered by reinsurance. The continuing nature of the event means that our final exposure is subject to a significant degree of uncertainty.

Reinsurance strategy

Significant reinsurance purchases are reviewed annually at both business unit and Group level to verify that the levels of protection being bought reflect any developments in exposure and the risk appetite of the Group. The basis of these purchases is underpinned by analysis of capital, earnings and capital volatility, cash flow and liquidity and the Group's franchise value.

Detailed actuarial analysis is used to calculate the Group's extreme risk profile and then design cost and capital efficient reinsurance programmes to mitigate these risks to within agreed appetites. For businesses writing general insurance we analyse the natural catastrophe exposure using our own internal probabilistic catastrophe model which is benchmarked against external catastrophe models widely used by the rest of the (re)insurance industry.

The Group cedes much of its worldwide catastrophe risk to third-party reinsurers through excess of loss and aggregate excess of loss structures. The Group purchases a Group-wide catastrophe reinsurance programme to protect against catastrophe losses up to a 1 in 250 year return period. The total Group potential retained loss from its most concentrated catastrophe exposure peril (Northern Europe Windstorm) is approximately £150 million on a per occurrence basis and £175 million on an annual aggregate basis. Any losses above these levels are covered by the group-wide catastrophe reinsurance programme to a level in excess of a 1 in 250 year return period. In addition the Group purchases a number of GI business line specific reinsurance programmes with various retention levels to protect both capital and earnings, and has reinsured 100% of its latent exposures to its historic UK employers' liability and public liability business written prior to 31 December 2000. The Group's property reinsurance programme and several of its smaller specialty programmes no longer provide coverage for pandemic catastrophes following the 1 January 2021 renewal in line with the rest of the market.

 

59 - Risk management continued

(g)  Asset management risk

Aviva is directly exposed to the risks associated with operating an asset management business through its ownership of Aviva Investors. The underlying risk profile of our asset management risk is derived from investment performance, specialist investment professionals and leadership, product development capabilities, fund liquidity, margin, client retention, regulatory developments, fiduciary and contractual responsibilities. Funds invested in illiquid assets such as commercial property are particularly exposed to liquidity risk. The risk profile is regularly monitored.

A client relationship team is in place to manage client retention risk, while all new asset management products undergo a review and approval process at each stage of the product development process, including approvals from legal, compliance and risk functions. Investment performance against client objectives relative to agreed benchmarks is monitored as part of our investment performance and risk management process, and subject to further independent oversight and challenge by a specialist risk team, reporting directly to the Aviva Investors' Chief Risk Officer.

Due to the adverse impact of COVID-19 on the UK commercial property sectors, and in particular the difficulty in being able to assign values to our commercial property portfolios, we temporarily suspended our unit-linked property funds to redemptions for six months in March 2020. We perform stress tests to ensure that our portfolios are managed within client mandates.

(h)  Operational risk

Operational risk is the risk of direct or indirect loss, arising from inadequate or failed internal processes, people and systems, or external events including changes in the regulatory environment. We have limited appetite for operational risk and aim to reduce these risks as far as is commercially sensible.

Our business units are primarily responsible for identifying and managing operational risks within their businesses, within the Group-wide operational risk framework including the risk and control self-assessment process. Businesses must be satisfied that all material risks falling outside our risk tolerances are being mitigated, monitored and reported to an appropriate level. Any risks with a high potential impact are monitored centrally on a regular basis. Businesses use key indicator data to help monitor the status of the risk and control environment. They also identify and capture loss events, taking appropriate action to address actual control breakdowns and promote internal learning.

COVID-19 has resulted in an increased level of inherent operational risk through new practices including enforced remote working, staff absences for sickness and childcare, market volatility and through our outsourcing arrangements. Additional risks relating to extensive working from home; include cyber, data loss and occupational health. We have adapted and strengthened our processes and controls to ensure operational risks remain at an acceptable level. Since the onset of the pandemic the Group has remained operationally resilient, with key activities such as cash payments and transaction processing being maintained, IT systems remaining operational, and employees including frontline customer facing staff being supported to ensure that that we are there to support our customers when they need us most.

Aviva has not seen a material increase in the volume of cyber incidents/attacks as a result of COVID-19 but has seen external threat actors exploiting the COVID-19 pandemic within such attacks e.g. phishing, texts and phone calls. In response to this Aviva has put in place a programme of communications to ensure Aviva employees are aware of such scams, published safe homeworking guides and run online training for our employees and their families. Support has also been given to our customers, including the launch of an online reporting facility to help combat fraud.

The importance of digital interaction with our customers and advanced data analytics, the conduct, data protection and financial crime agenda of the European institutions, the FCA and other regulators, as well as the increasing cyber security threat, as evidenced by continuing instances of high profile cyber security breaches for other corporates in the UK and elsewhere, mean the Group has inherent risk exposure to data theft, conduct regulatory breaches (including financial crime) and customer service interruption due to IT systems failure. During 2020 we have continued to take action to reduce our residual exposure to these risks and improve our operational resilience through our conduct risk management framework, financial crime risk mitigation programme and significant investment in upgrading our IT infrastructure and security.

On 26 October 2020 the FCA published the outcome of its investigation into Aviva's announcement on preference shares made in March 2018. The FCA found that Aviva contravened certain provisions of the Listing Rules and the Disclosure and Transparency Rules by failing to take reasonable care to ensure that information in the announcement was not misleading and did not omit anything likely to affect the import of the information in the announcement. We have accepted the FCA decision and lessons have been learned.

We are exposed to the risk that litigation, employee misconduct, operational failures, the outcome of regulatory investigations, media speculation and negative publicity, disclosure of confidential client information, and inadequate services, whether or not founded, could impact our brands or reputation. Any of our brands or our reputation could also be affected if products or services recommended by us (or any of our intermediaries) do not perform as expected (whether or not the expectations are founded) or customers' expectations for the product change. We seek to reduce this risk to as low a level as commercially sensible.

The FCA regularly considers whether we are meeting the requirement to treat our customers fairly and we make use of various metrics to assess our own performance, including customer advocacy, retention and complaints. Failure to meet these requirements could also impact our brands or reputation. During 2020, the FCA published their General Insurance Pricing Practices Report. We support the FCA's intent to bring greater clarity and consistency to consumers across general insurance pricing. This will be a significant area of focus for us over the next 12 months.

If we do not manage the perception of our brands and reputation successfully, it could cause existing customers or agents to withdraw from our business and potential customers or agents to choose not to do business with us.

 

59 - Risk management continued

(i)  Risk and capital management

(i)  Sensitivity test analysis

The Group uses a number of sensitivity tests to understand the volatility of earnings, the volatility of its capital requirements, and to manage its capital more efficiently. Sensitivities to economic and operating experience are regularly produced on the Group's key financial performance metrics to inform the Group's decision making and planning processes, and as part of the framework for identifying and quantifying the risks to which each of its business units, and the Group as a whole, are exposed.

(ii)  Life insurance and investment contracts

The nature of long-term business is such that a number of assumptions are made in compiling these financial statements. Assumptions are made about investment returns, expenses, mortality rates and persistency in connection with the in-force policies for each business unit. Assumptions are best estimates based on historic and expected experience of the business. A number of the key assumptions for the Group's central scenario are disclosed elsewhere in these statements.

(iii)  General insurance and health business

General insurance and health claim liabilities are estimated by using standard actuarial claims projection techniques. These methods extrapolate the claims development for each accident year based on the observed development of earlier years. In most cases, no explicit assumptions are made as projections are based on assumptions implicit in the historic claims.

(iv)  Sensitivity test results

Illustrative results of sensitivity testing for long-term business, general insurance and health business and the fund management and non-insurance business are set out below. For each sensitivity test the impact of a reasonably possible change in a single factor is shown, with other assumptions left unchanged. Each test allows for any consequential impact on the asset and liability valuations.

Sensitivity factor	Description of sensitivity factor applied
Interest rate and investment return	The impact of a change in market interest rates by a 1% increase or decrease. The test allows consistently for similar changes to investment returns and movements in the market value of backing fixed interest securities.
Credit spreads	The impact of a 0.5% increase in credit spreads over risk-free interest rates on corporate bonds and other non-sovereign credit assets.
Equity/property market values	The impact of a change in equity/property market values by ± 10%.
Expenses	The impact of an increase in maintenance expenses by 10%.
Assurance mortality/morbidity (life insurance only)	The impact of an increase in mortality/morbidity rates for assurance contracts by 5%.
Annuitant mortality (long-term insurance only)	The impact of a reduction in mortality rates for annuity contracts by 5%.
Gross loss ratios (non-long-term insurance only)	The impact of an increase in gross loss ratios for general insurance and health business by 5%.

Long-term business sensitivities as at 31 December 2020

31 December 2020 Impact on profit before tax £m	Interest rates +1%	Interest rates  -1%	Credit spreads +0.5%	Equity/ property  +10%	Equity/ property -10%	Expenses +10%	Assurance mortality  +5%	Annuitant mortality -5%
Insurance participating	10	(375)	(80)	(20)	(40)	(65)	20	(5)
Insurance non-participating	(965)	1,215	(735)	(115)	100	(215)	(155)	(1,020)
Investment participating	(60)	75	-	(20)	20	(50)	-	-
Investment non-participating	(5)	5	-	5	(10)	(5)	-	-
Assets backing life shareholders' funds	(145)	180	(45)	(25)	25	-	-	-
Total	(1,165)	1,100	(860)	(175)	95	(335)	(135)	(1,025)

31 December 2020 Impact on shareholders' equity before tax £m	Interest rates +1%	Interest rates  -1%	Credit spreads +0.5%	Equity/ property +10%	Equity/ property  -10%	Expenses +10%	Assurance mortality +5%	Annuitant mortality  -5%
Insurance participating	10	(375)	(80)	(20)	(40)	(65)	20	(5)
Insurance non-participating	(965)	1,215	(735)	(115)	100	(215)	(155)	(1,020)
Investment participating	(60)	75	-	(20)	20	(50)	-	-
Investment non-participating	(5)	5	-	5	(10)	(5)	-	-
Assets backing life shareholders' funds	(195)	220	(50)	(25)	25	-	-	-
Total	(1,215)	1,140	(865)	(175)	95	(335)	(135)	(1,025)

59 - Risk management continued

(i)  Risk and capital management continued

(iv)  Sensitivity test results continued

Sensitivities as at 31 December 2019

31 December 2019 Impact on profit before tax £m	Interest rates  +1%	Interest rates -1%	Credit spreads  +0.5%	Equity/  property +10%	Equity/  property -10%	Expenses  +10%	Assurance  mortality +5%	Annuitant  mortality  -5%
Insurance participating	-	5	(10)	(65)	60	(50)	10	(5)
Insurance non-participating	(985)	1,265	(800)	(120)	105	(240)	(145)	(955)
Investment participating	(85)	55	(5)	(5)	5	(25)	-	-
Investment non-participating	-	5	-	5	(5)	(5)	-	-
Assets backing life shareholders' funds	(150)	170	(35)	(35)	30	-	-	-
Total	(1,220)	1,500	(850)	(220)	195	(320)	(135)	(960)

31 December 2019 Impact on shareholders' equity before tax £m	Interest rates  +1%	Interest rates -1%	Credit spreads  +0.5%	Equity/  property  +10%	Equity/  property  -10%	Expenses  +10%	Assurance  mortality +5%	Annuitant  mortality -5%
Insurance participating	-	5	(10)	(65)	60	(50)	10	(5)
Insurance non-participating	(985)	1,265	(800)	(120)	105	(240)	(145)	(955)
Investment participating	(85)	55	(5)	(5)	5	(25)	-	-
Investment non-participating	-	5	-	5	(5)	(5)	-	-
Assets backing life shareholders' funds	(190)	205	(30)	(30)	30	-	-	-
Total	(1,260)	1,535	(845)	(215)	195	(320)	(135)	(960)

Changes in sensitivities between 2020 and 2019 reflect underlying movements in the value of assets and liabilities, the relative duration of assets and liabilities and asset liability management actions. The sensitivities to economic and demographic movements relate mainly to business in the UK.

General insurance and health business sensitivities as at 31 December 2020

31 December 2020 Impact on profit before tax £m	Interest rates +1%	Interest rates -1%	Credit spreads +0.5%	Equity/ property +10%	Equity/ property -10%	Expenses +10%	Gross loss ratios  +5%
Gross of reinsurance	(380)	445	(110)	100	(100)	(145)	(325)
Net of reinsurance	(435)	490	(110)	100	(100)	(145)	(305)

31 December 2020 Impact on shareholders' equity before tax £m	Interest rates +1%	Interest rates -1%	Credit spreads +0.5%	Equity/ property  +10%	Equity/ property -10%	Expenses +10%	Gross loss ratios +5%
Gross of reinsurance	(380)	445	(110)	100	(100)	(25)	(325)
Net of reinsurance	(435)	490	(110)	100	(100)	(25)	(305)

Sensitivities as at 31 December 2019

31 December 2019 Impact on profit before tax £m	Interest rates  +1%	Interest rates -1%	Credit spreads  +0.5%	Equity/  property +10%	Equity/  property  -10%	Expenses  +10%	Gross loss  ratios +5%
Gross of reinsurance	(210)	165	(115)	185	(175)	(140)	(315)
Net of reinsurance	(270)	215	(115)	185	(175)	(140)	(300)

31 December 2019 Impact on shareholders' equity before tax £m	Interest rates  +1%	Interest rates -1%	Credit spreads  +0.5%	Equity/  property  +10%	Equity/ property  -10%	Expenses  +10%	Gross loss  ratios  +5%
Gross of reinsurance	(210)	165	(115)	185	(175)	(25)	(315)
Net of reinsurance	(270)	215	(115)	185	(175)	(25)	(300)

For general insurance and health, the impact of the expense sensitivity on profit also includes the increase in ongoing administration expenses, in addition to the increase in the claims handling expense provision.

Fund management and non-insurance business sensitivities as at 31 December 2020

31 December 2020 Impact on profit before tax £m	Interest rates +1%	Interest rates -1%	Credit spreads +0.5%	Equity/ property +10%	Equity/ property -10%
Total	-	-	50	(10)	20

31 December 2020 Impact on shareholders' equity before tax £m	Interest rates +1%	Interest rates  -1%	Credit spreads +0.5%	Equity/ property +10%	Equity/ property -10%
Total	-	-	50	(10)	15

 

59 - Risk management continued

(i)  Risk and capital management continued

(iv)  Sensitivity test results continued

Sensitivities as at 31 December 2019

31 December 2019 Impact on profit before tax £m	Interest rates  +1%	Interest rates -1%	Credit spreads  +0.5%	Equity/ property  +10%	Equity/  property  -10%
Total	(20)	15	40	(10)	15

31 December 2019 Impact on shareholders' equity before tax £m	Interest rates  +1%	Interest rates -1%	Credit spreads  +0.5%	Equity/  property  +10%	Equity/  property  -10%
Total	(15)	15	40	(10)	15

Limitations of sensitivity analysis

The above tables demonstrate the effect of a change in a key assumption while other assumptions remain unchanged. In reality, there is a correlation between the assumptions and other factors. It should also be noted that these sensitivities are non-linear, and larger or smaller impacts should not be interpolated or extrapolated from these results.

The sensitivity analyses do not take into consideration that the Group's assets and liabilities are actively managed. Additionally, the financial position of the Group may vary at the time that any actual market movement occurs. For example, the Group's financial risk management strategy aims to manage the exposure to market fluctuations.

As investment markets move past various trigger levels, management actions could include selling investments, changing investment portfolio allocation, adjusting bonuses credited to policyholders, and taking other protective action.

A number of the business units use passive assumptions to calculate their long-term business liabilities. Consequently, a change in the underlying assumptions may not have any impact on the liabilities, whereas assets held at market value in the statement of financial position will be affected. In these circumstances, the different measurement bases for liabilities and assets may lead to volatility in shareholder equity. Similarly, for general insurance liabilities, the interest rate sensitivities only affect profit and equity where explicit assumptions are made regarding interest (discount) rates or future inflation.

Other limitations in the above sensitivity analyses include the use of hypothetical market movements to demonstrate potential risk that only represent the Group's view of possible near-term market changes that cannot be predicted with any certainty, and the assumption that all interest rates move in an identical fashion.

 

62 - Related party transactions

This note gives details of the transactions between Group companies and related parties which comprise our joint ventures, associates and staff pension schemes.

The Group undertakes transactions with related parties in the normal course of business. Loans to related parties are made on normal arm's-length commercial terms.

Services provided to, and by related parties

				2020				2019
	Income earned in the year £m	Expenses incurred in the year  m	Payable at year end  m	Receivable at year end £m	Income earned in the year £m	Expenses incurred in the year £m	Payable at year end £m	Receivable at year end £m
Associates	12	(1)	-	6	1	-	-	4
Joint ventures	27	-	-	1	54	-	-	4
Employee pension schemes	11	-	-	6	9	-	-	6
	50	(1)	-	13	64	-	-	14

Transactions with joint ventures in the UK relate to the property management undertakings, the most significant of which are listed in note 19(a)(iii). The Group has equity interests in these joint ventures, together with the provision of administration services and financial management to many of them. Our fund management companies also charge fees to these joint ventures for administration services and for arranging external finance.

Key management personnel of the Company may from time to time purchase insurance, savings, asset management or annuity products marketed by group companies on equivalent terms to those available to all employees of the Group. In 2020, other transactions with key management personnel were not deemed to be significant either by size or in the context of their individual financial positions.

Our UK fund management companies manage most of the assets held by the Group's main UK staff pension scheme, for which they charge fees based on the level of funds under management. The main UK scheme holds investments in Group-managed funds and insurance policies with other group companies, as explained in note 51(b)(ii). As at 31 December 2020, the Friends Provident Pension Scheme ('FPPS'), acquired in 2015 as part of the acquisition of the Friends Life business, held an insurance policy of £667 million (2019: £646 million) issued by a Group company, which eliminates on consolidation.

The related parties' receivables are not secured, and no guarantees were received in respect thereof. The receivables will be settled in accordance with normal credit terms.

During the prior period, the ASPS completed a bulk annuity buy-in transaction with Aviva Life & Pensions UK Limited (AVLAP), a Group company. At inception, the buy-in insured approximately 4,300 deferred and 1,500 current pensioner liabilities. A premium of £1,665 million was paid by the scheme to AVLAP, with AVLAP recognising gross insurance liabilities of £1,334 million. The difference between the premium and the gross liabilities implied a profit of £331 million, which did not include costs incurred by the Group associated with the transaction, and was driven primarily by differences between the measurement bases used to calculate the premium and the accounting value of the associated gross liabilities. The ASPS recognised a plan asset of £1,126 million, with the difference between the plan asset recognised and the premium paid being recognised as an actuarial loss through Other Comprehensive Income.

During the current period, the ASPS completed a further bulk annuity buy-in transaction with AVLAP. A premium of £873 million was paid by the scheme to AVLAP, with AVLAP recognising gross liabilities of £737 million. The difference between the premium and the gross liabilities implies a profit of £136 million, which does not include costs incurred by the Group associated with the transaction, and is driven primarily by differences between the measurement bases used to calculate the premium and the accounting value of the associated gross liabilities. The ASPS recognised a plan asset of £579 million, with the difference between the plan asset recognised and the premium paid being recognised as an actuarial loss through Other Comprehensive Income. As at 31 December 2020, AVLAP recognised technical provisions of £2,147 million (2019: £1,243 million) in relation to buy-in transactions with the ASPS which have been included within the Group's gross insurance liabilities, and the ASPS held a transferable plan asset of £1,858 million (2019: £1,144 million) which does not eliminate on consolidation.

Key management compensation

The total compensation to those employees classified as key management, being those having authority and responsibility for planning, directing and controlling the activities of the Group, including the executive and non-executive directors is as follows:

	2020 £m	2019 £m
Salary and other short-term benefits	10.7	12.3
Other long-term benefits	-	3.2
Post-employment benefits	1.4	1.3
Equity compensation plans	12.8	12.7
Termination benefits	0.6	1.0
Total	25.5	30.5

Information concerning individual directors' emoluments, interests and transactions is given in the Directors' Remuneration report.

 

END

 

 

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