25 Surrender values Flashcards
Chapter summary
- The factors to consider in determining without-profits surrender values
- Methods of calculation: retro and prospective method
- Analysis of methods
- Choosing a method
- Retention of profit
- Determining the basis
- Unit-linked contracts
How do reserves change over the policy duration for whole life and endowment assurances?
Increase (towards the sum assured) with increasing policy duration.
Reserves should usually at least equal the surrender value, since reserves are released when surrender values are paid.
Why are there no surrender values on TA contracts?
- Low asset shares
- High cost of selective withdrawals
- to recoup losses on early lapses (when AS is negative) by making profit on later lapses when AS is positive
- AS are volatile, so it would be diffcult to devise a SV scale that would be fair to P/h
- AS can be negative at later durations, and SV can not be decreasing (marketing risk)
Principles for surrender values
Policyholders Eagerly Look At Coverage, Carefully Scrutinizing Deductible Sums.
PELACCSDS
- PRE taken into account
- Early durations: SV comparable to premiums paid
- Later durations: SV comparable to maturity benefit
- Asset share: should always be more than SV. in aggregate over reasonable time period
- Competitors SV should be taken into account
- Change infrequenntly, unless dictated by financial conditions
- Simple to calculate, taking into account computing power
- Documented clearly
- Selection against insurer should be avoided
Principles for surrender values
PRE + early + later durations
PRE is dictated by:
- past practises of company
- litarature used
SV at early durations:
- natural for a policyholder to compare the surrender value with the premiums paid, or even premiums plus some interest
- asset share at such durations will usually be less than this
- both the asset share and the prospective value might well be negative.
- To deal with this: recoup the cost from later surrenders, ie penalise later surrenders to pay early surrenders more than they warrant.
SV at later durations:
- SV comparable with maturity benefit
- SV should progress smoothly into maturity value
- achieved by applying a surrender value derived from prospective policy values.
Principles for surrender values
Asset share
- Starting point for calculating SVs
- The asset share represents the money that the company has really accumulated in respect of any policy
- SV can be less that AS for some policies, as long as in total it represent the maximum the company can afford to pay out measured over a reasonable period of time.
- might do your asset share calculations only once per year
- A second way is to use a smoothed asset share as the basis for surrender values can smooth over months ot years
Principles for surrender values
New business disclosure and other competitive considerations
- Insurers may provide prospective policyholders with illustrations of possible surrender values at various durations.
- The financial press may publish tables showing the surrender values offered by different life insurance companies.
- company want to be seen to offer competitive surrender values as well as competitive maturity terms.
- Literature and financial press should be consistent
- Above should be considered when determining surrender values
Principles for surrender values
Change in surrender scales over time and by duration
scales of surrender values should not change too frequently unless financial conditions would dictate this.
- should not contain discontinuities by duration to maintain equity between policyholders who surrender on either side of the discontinuity
Principles for surrender values
Ease of application
The surrender terms should not be excessively complicated to calculate, taking into account the computing power available.
Principles for surrender values
Selection against the company
The surrender terms should minimise the risk of policyholders selecting against the company.
- potential cost of such selection is sometimes so high that it is better not to offer discontinuance terms at all.
When does this happen
- term assurance business and immidiate annuity business
- after a market crash, especially for single premium business. need to revise terms immediately after any such movement in the markets
Principles for surrender values
Surrender and re-entry
special case of selection against the company
* ensure that surrender terms,
* when looked at in conjunction with the current premium rates
* do not make it advantageous for the policyholder to discontinue their policy and then take out a new policy.
Auction value
- The auction value of a policy is the value it would fetch if the policyholder were to transfer it as an ongoing policy to someone else.
- transactions are usually dealt with by specialised brokers.
- The underlying assumptions for auction values would probably be different from the company’s own assumptions.
- The value may fluctuate unpredictably,
Methods of calculation
The retrospective method
- uses retrospective reserve
- starting point for basis: experience of the policy
- allowance should be made for cost of surrender
Methods of calculation
The Prospective method
- this is the value of future benefits and expenses, net of future premiums due,
- using estimates of future expected investment returns, expenses, and mortality experience of the surrendering policyholders.
Analysis of the methods
The retrospective method
- The retrospective value will represent the earned asset share at the date of surrender or an estimate thereof.
- represent the maximum that the company could pay without making a loss
- at early durations it will not look too unreasonable compared with the premiums paid.
Disadvantages:
- Not easy to ensure quity with continuing policyholders or shareholders. Since it says nothing about the profit that would have been made if the policy was not surrendered
- Except by chance the surrender value will not run into the maturity value
- May produce results that are less than auction value (reputational risk)
- Because the method does not take into account future benefits and expected future experience, it could produce surrender values that are significantly different from a realistic prospective value (used to calculate auction values)
Advatages:
- simple, Provided the necessary information is available to build up earned asset shares
- Surrender value is not less than asset share
- profit can be made from surrender penalties
Retention of profit
The profit retained by the company is the excess of the earned asset share over the surrender value paid.
* if SV = retrospective value, no profit retained
* if SV= prospective, profit depends on relationship between SV assumptions and premium basis assumptions
see picture
If SV assumptions = future experience, same profit as if no surrender happened
If SV assumptions = premium assumptions, only retain profit made to date
By a suitable choice of basis – between its best estimate of future experience and its premium basis assumptions – the company can adjust how much profit it retains in accordance with its corporate aims.
Blended basis: premium basis near entry and runs into best estimate
