Ambac Financial : ASSURANCE UK LIMITED - SOLVENCY AND FINANCIAL CONDITION REPORT

SFCR 2020

Solvency and Financial Condition Report

Ambac Assurance UK Limited

31 December 2020

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SFCR 2020

Table of Contents

1 Executive Summary	4
2 Business and Performance	5
2.1	Business and External Environment	5
2.2	Objectives and Strategies	6
2.3	Performance from Underwriting Activities	8
2.3.1 Overview	8
2.3.2 Underwriting Profit and Loss	8
2.4	Performance from Investment Activities	8
2.4.1 Investment Profit and Loss	9
2.4.2 Securitisations	10
2.5	Operating/Other Expenses	11
2.5.1 Overview	11
3 Systems of Governance	12
3.1	General Governance Arrangements	12
3.2	Risk Management System	13
3.2.1 The Three Lines of Defence Model	13
3.2.2 First Line of Defence	13
3.2.3 Second Line of Defence	14
3.2.4 Third Line of Defence	15
3.2.5 Prudent Person Principle	15
3.2.6 Use of External Rating Agencies	15
3.2.7 Matching Adjustment, Volatility Adjustment and Risk Free Rates	16
3.3	Fit and Proper	16
3.4 ORSA Process	17
3.5	Internal Control	17
3.6	Internal Audit Function	18
3.7 Actuarial Function	18
3.8	Outsourcing	19
3.9	Material Transactions with Shareholders	20
3.10 Remuneration Policy and Practices	20
4 Risk Profile	20
4.1	Underwriting Risk	20
4.2	Material Risk Concentrations	22
4.3	Market Risk	24
4.3.1 Overview	24
4.3.2 Interest Rate Risk	24
4.3.3 Equity Risk	25
4.3.4 Property Risk	25
4.3.5 Spread Risk	26
4.3.6 Currency Risk	26
4.3.7 Concentration Risk	27
4.4	Counterparty Default Risk	27
4.5	Liquidity Risk	27
4.6	Operational Risk	29
4.7	Other Material Risks	30
4.7.1 Group Risk	30
4.7.2 Legal and Regulatory Risk	30

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SFCR 2020
4.7.3 Going Concern	31
4.8 Any Other Information	32
5 Valuation for Solvency Purposes	33
5.1	Solvency II Balance Sheet	33
5.2	Financial Statement and Solvency II Valuation Methods and Assumptions	34
5.3 Assets	37
5.4 Technical Provisions and Other Liabilities	38
5.4.1 Overview	38
5.4.2 Technical Provisions and Other Liabilities	38
5.4.3 Other Liabilities	40
5.5 Alternative Methods of Valuation	40
6 Capital Management	40
6.1 Own Funds	40
6.2	Minimum Capital Requirement and Solvency Capital Requirement	42
6.2.1 Overall Comments	42
6.2.2 SCR	42
6.2.3 MCR	43
6.3	Use of internal model	43
6.4	Non-Compliance with the SCR	43
Directors' Certificate	45
APPENDIX A - AFG GROUP STRUCTURE CHART	46

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SFCR 2020

1 Executive Summary

Ambac Assurance UK Limited ("AUK" or "the Company") presents its Solvency and Financial Condition Report ("SFCR") for the year ended 31 December 2020.

The main purpose of the SFCR is for AUK to communicate to policyholders and other stakeholders, its performance over the past year, the governance processes in place, its key risks, the valuation of its assets and technical provisions and the nature of its capital resources and capital requirements.

There has been no change to AUK's business over the year ended 31 December 2020 and AUK's priority continues to be the continuing run-off of its portfolio of policies over the period to the scheduled maturity of its final policy in 2047.

The SFCR follows the guidance of the Prudential Regulatory Authority ("PRA") and that of European Insurance and Occupational Pensions Authority's ("EIOPA") Guidelines "Final Report on public consultation No. 14/047 on Guidelines on reporting and public disclosure". It has been reviewed by the Executive Management Group ("EMG") of AUK, and presented to the Audit and Risk Committee ("ARC") for review before presentation for approval by the Board. The information has been prepared based on the Financial Statements of AUK as at 31 December 2020 and technical provision data as at that date. In line with the PRA Policy Statement 25/18 (Solvency II: External audit of the public disclosure requirement) the SFCR has not been subject to external audit as AUK meets the requirements set out in PS 25/18 of a small firm for external audit purposes.

AUK has for a number of years had a capital shortfall as compared to its capital requirements. The capital deficit as compared to SCR increased during 2020, due to the combined impact of the reduction in long term interest rates in the year which resulted in an increase in technical provision liabilities and hence a reduction in eligible own funds and an increase in capital requirements for non-life risk due to parameter changes within the solvency capital requirement calculation. However, generally the capital deficit is expected to improve year on year, as policies expire and investments increase. AUK's capital met MCR for the first time during 2019.

The change in Net Assets and Available Own Funds and SCR over the year is shown below.

Table 1: Regulatory Capital Adequacy

GBP m's	Dec 2020	Dec 2019
Net Assets and Available Own Funds	196.3	187.5
Total Eligible funds to meet SCR	183.5	178.0
Solvency Capital Requirement	255.6	207.5
Capital (Deficit) for SCR	(72.1)	(29.5)
Total Available and Eligible funds to meet MCR	145.2	146.9
Minimum Capital Requirement	63.9	51.9
Capital Surplus/(Deficit) for MCR	81.3	95.0

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SFCR 2020

AUK is unlikely to be able to remediate any capital shortfall through additional capital issuance given that both AUK and its parent Ambac Assurance Corporation ("AAC") are in run-off and AAC remains under enhanced regulatory supervision by its regulator. There is, therefore, no expectation of any injection of additional capital from AAC.

It should be noted, that regardless of this capital shortfall AUK has sufficient resources to meet its obligations as they fall due, and is therefore both a going concern and solvent on a balance sheet and cashflow basis.

2 Business and Performance

2.1 Business and External Environment

AUK is incorporated under the laws of England and Wales and is in the non-life financial guarantee insurance business. AUK commenced writing policies in 1997. AUK is a wholly owned subsidiary of AAC, a financial guarantee insurance company domiciled in Wisconsin, United States of America. The ultimate holding company is Ambac Financial Group, Inc. ("AFG"). AFG's common stock trades on the NYSE under ticker symbol AMBC. The group structure as at 31st December 2020 is set out in Appendix A. AUK's external auditor is KPMG LLP (15 Canada Square, London E14 5GL).

AUK's only line of business is credit and suretyship and as such its principal business activity is portfolio risk management of its existing long term book of financial guarantee business. The portfolio comprises 52 financial guaranteed obligations with a gross par outstanding of £8.2 billion as of 31 December 2020 ( 57 obligations and £8.9 billion gross par outstanding as at 31 December 2019). AUK's portfolio of financial guarantee business is monitored by its portfolio risk management team, based in London. Activity in the year has included on-going monitoring and remediation activity relating to AUK's portfolio. AUK continues to collect instalment premiums from its portfolio of transactions and also generates fees from processing requests for consents, waivers and amendments ("ACW") to existing transactions.

AUK is dual regulated in the United Kingdom by the Prudential Regulation Authority ("PRA") and the Financial Conduct Authority ("FCA"). In 2009 following the creation of significant claims provisions, AUK's then regulator, the Financial Services Authority ("FSA"), curtailed AUK's licence to undertake new business, and limited its licence to undertaking only run-off related activity. Accordingly, AUK is authorised to run-off its financial guarantee insurance portfolio in the United Kingdom, and (until December 31, 2020) to do the same through a branch in Milan, Italy, and a number of other EU countries. EU legislation allowed Ambac UK to conduct business in EU states other than the United Kingdom through a "passporting" arrangement, which eliminated the necessity of additional licensing or authorisation in those other EU jurisdictions.

On 31 December 2020 AUK's authorisation to run-off insurance policies in the European Economic Area ("EEA") through passporting arrangements ceased. This was a consequence of the end of the transition period ("Transition Period") agreed between the UK Government and the EU following the UK's exit from the EU on 31 January 2020 ("Brexit"). The Company's outstanding policies in the EEA were either commuted or the benefits of those policies were transferred to UK entities during the year. AUK therefore no longer services any insurance policies in the EEA. AUK maintained a branch in Milan until 18 December 2020 but closed the branch on that date following the transfer of the administration of the last remaining policy in the branch to the UK on 1 December 2020.

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