13 . Risk I Flashcards
Risk classifications
- Model risk
- Parameter risk
- Random fluctuations risk
Model risk definition
Risk that underlying model is not adquate
Parameter risk definition
Risk that parameters for underlying model are incorrect
Random fluctuations risk
- Risk of unpredictable fluctuations arising from sample error
- Greater the smaller the sample
Policy data as a source of risk
- Inadequate, inaccurate or incomplete policy data could lead to incorrect results and recommendations
- Model points used may not represent in-force business accurately enough
Other data as a source of risk
- May be incomplete, inaccurate or not credible»_space; inadequate
- Not suited to purpose
- Limited for health and care products
What are some data limitations for health data
- Credibility
- Smaller policy volumes: CI and LTCI
- Smaller incidence rates: IP and IP
- Changes in products and markets
- Heterogeneous products and markets
- Relevance
- Socio-economic factors (IP)
- Medical advances (CI)
- Health at older ages and longevity (LTCI)
Mortality rates as a source of risk
- Model risk that probability distribution not appropriate representation of future mortality.
- Parameter risk that parameters do not adequately reflect the future experience of the class of lives insured even if model appropriate.
- Random fluctuations risk that actual future experience may not correspond with the model and parameters adopted, even though they adequately reflect the class of lives insured.
○ If numbers exposed to risk not large enough for law of large numbers to apply.
Claims experience for health and care products as a source of risk
- For IP and LTCI:
- misestimation of transfer probabilities in underlying multiple state model
- For CI:
- rates of diagnosis of illnesses specified in contract
- Model, parameter and random fluctuation risk
- More risk in making assumptions due to lack of reliable, applicable data and smaller policy volumes
Investment return as a source of risk
- Need assumptions about existing assets or future investment
- May be deterministic or stochasti
- Model, parameter and random fluctuations risk
- Capital values risk in an investigation comparing existing assets with liabilities
How can random fluctuation risk be investigated for investment returns?
Stochastic model: model the risk explicitly
Deterministic: Sensitivity test
Explain capital values
Risk that insurance company that appears solvent one day could become insolvent the following day after a change in asset values.
- If assets have a shorter DMT than liabilities, a fall in interest rates would lead to value of liabilities rising by more than value of assets.
- Interest rates fall - proceeds from assets can no longer be reinvested at the rates needed to meet the liabilities.
Expenses as a source of risk
- Higher than expected expenses
- Higher than expected inflation:
- model risk; parameter risk; random fluctuations risk
- Contribution to expenses from premiums and charges may be mismatched with actual expenses incurred over time
How do expense movements affect the business
- Heavy up-front expenses recouped gradually - withdrawal risk
- Long duration policies - higher inflation than expected - inadequate original expense loadings.
- Business volumes - ability to cover fixed expenses.
What are the drivers of the risk charges received being lower than expected
- Investment performance risk
- Persistency risk
- New business mix or volume risk (depends on extent to which charges are linked to average size or volume of new business)
