8.3 Objectives and constraints of UK insurance companies

Question 1

Define a term insurance policy

Answer 1

A term insurance policy covers the life of an individual over a specific period (usually ten years or more). In the event that the insured person survives the period, no payment is made.

Question 2

Define a whole-of-life policy

Answer 2

A whole-of-life policy will insure the life of an individual and pay a capital sum on the policyholder’s death, whenever the death should occur.

Question 3

Explain an endowment policy.

Answer 3

An endowment policy combines a savings element with a life insurance element. In return for regular premiums, an endowment policy will pay a fixed sum of money (the basic sum assured) in the event of the policyholder’s death, or at least the same fixed sum if the holder survives for a pre-specified period. Endowments policies were popular in the 1980s and 1990s, often taken out as insurance cover for mortgages where the sum assured is equal to the outstanding value of the mortgage. If the holder dies during the life of the mortgage, the mortgage provider receives the sum assured, thus paying off the mortgage. Alternatively, if the holder survives the period of the mortgage, the value of the endowment is designed to be equal to the value of the mortgage when the mortgage is due to be redeemed.

Question 4

Explain With-profits endowment policies.

Answer 4

With-profits endowment policies give the opportunity for a surplus to be accrued over and above the basic sum assured. The rate of bonus passed on to investors is not directly related to the performance of the underlying managed fund. The objective of with-profits funds is to deliver a smoothed return by means of bonuses rather than returns directly linked to the markets, which may be volatile. This will mean putting funds into reserves during periods of strongly positive investment returns and drawing on reserves during periods of poorer performance. It is clear to see that if a life office continued to pay bonuses in excess of actual returns, it would deplete its reserves, and this could jeopardise the sustainability of future bonuses.

Question 5

What are the 5 features of general insurance?

Answer 5

1. Includes insurance cover for cars, homes, contents of homes, pets, etc.
2. Typically short-term investment horizon
3. Low tolerance of risk
4. Highly liquid assets
5. Solvency requirements
    

Question 6

Summarise the typical asset allocation

Answer 6