A5-A10 - Framework for Assessing Risk Margins

Question 1

Define: Claims Portfolio

Answer 1

A CLAIMS PORTFOLIO is the aggregate claims portfolio (e.g. licensed insurance entity) for which the risk margins must be estimated.

Question 2

Define: Valuation Class

Answer 2

VALUATION CLASSES represent the portfolios that will be considered individually as per of the risk margin analysis. These may be aligned to the valuation portfolios analyzed separately for central estimate purposes.

Question 3

Define: Claim Group

Answer 3

A CLAIM GROUP is a group of claims homogeneous in terms of risk characteristics.

Question 4

List the order of subdivisions of the Claims Portfolio.

Answer 4

Claims portfolio
-> Valuation Classes
-> Homogeneous Claim Groups

Question 5

At the highest level, what are the 2 sources of uncertainty?

Answer 5

1) Systemic Risks
2) Independent Risks

Question 6

Define: Systemic Risk

Answer 6

SYSTEMIC RISK is defined as risks which are potentially common or shared across Claim Groups or Valuation Classes.

Question 7

What are the 2 subcategories of Systemic Risk?

Answer 7

• EXTERNAL SYSTEMIC RISK: risk that is external to the actuarial process. When aggregated, these risks make up the the Systemic Component of PROCESS UNCERTAINTY.
• INTERNAL SYSTEMIC RISK: risk that is internal to the actuarial process. When aggregated, these risks make up the Systemic Component of PARAMETER AND MODEL UNCERTAINTY. Also called Model Specification Risk.

Question 8

Define: Independent Risk

Answer 8

INDEPENDENT RISK represents those risks arising due to the randomness inherent in the insurance process.

Question 9

What are the 2 subcategories of Independent Risk?

Answer 9

• PARAMETER RISK: represents the extent to which the randomness associated with the insurance process compromises the ability to select appropriate parameters in the valuation process.
• PROCESS RISK: is the pure effect of the randomness associated with the insurance process.

Question 10

List some approaches that may be used to analyze independent risk sources. (5)

Answer 10

• Mack Method
• Bootstrapping
• Stochastic Chain Ladder
• Generalized Linear Modeling (GLM) techniques
• Bayesian techniques

Question 11

What are the 3 main sources of INTERNAL SYSTEMIC Risk?

Answer 11

1) Specification Error
2) Parameter Selection Error
3) Data Error

Question 12

Define: Specification Error

Answer 12

SPECIFICATION ERROR: the error that can arise from the inability to build a model that is fully representative of the underlying process.

Question 13

Define: Parameter Selection Error

Answer 13

PARAMETER SELECTION ERROR: the error that can arise because the model is unable to adequately measure all predictors of claim cost outcomes or trends in these predictors.

Question 14

Define: Data Error

Answer 14

DATA ERROR: the error that can arise due to poor data or unavailability of data required to conduct a credible valuation. Data error also relates to the inadequate knowledge of the portfolio being analyzed, including pricing, underwriting and claims management process and strategies.

Question 15

List some sources of External Systemic Risk. (7) (LECLERE)

Answer 15

• Economic and Social Risks
• Legislative, Political Risks and Claim Inflation Risks
• Claim Management Process Change Risk
• Expense Risk
• Event Risk
• Latent Claim Risk
• Recovery Risk

Question 16

Define: Economic and Social Risks

Answer 16

ECONOMIC AND SOCIAL RISKS: normal inflation and other social and environmental trends.

Question 17

Define: Legislative, Political Risks and Claim Inflation Risks

Answer 17

LEGISLATIVE, POLITICAL RISKS AND CLAIM INFLATION RISKS: relates to known or unknown changes to legislative or political environment within which each valuation portfolio currently operates and shifts or trends in the level of claim settlements.

Note: this risk category encapsulates most systemic trends normally referred to as superimposed inflation).

Question 18

Define: Claim Management Process Change Risk

Answer 18

CLAIM MANAGEMENT PROCESS CHANGE RISK: changes to the processes relating to claim report, payment, finalization or estimation.

Question 19

Define: Expense Risk

Answer 19

EXPENSE RISK: the uncertainty associate with the cost of managing the run off of the insurance liabilities or the cost of maintaining the unexpired risk until the date of loss.

Question 20

Define: Event Risk

Answer 20

EVENT RISK: the uncertainty associated with claim costs arising from events, either natural peril events or man-made events.

Question 21

Define: Latent Claim Risk

Answer 21

LATENT CLAIM RISK: the uncertainty associated with claims that may arise from a particular source, a source that is currently not considered to be covered.

Question 22

Define: Recovery Risk

Answer 22

RECOVERY RISK: the uncertainty associated with recoveries, either reinsurance or non-reinsurance.

Question 23

What areas of Additional Analysis can be conducted to provide further comfort in the outcomes of the deployment of The Framework. (5)

Answer 23

1) Sensitivity Testing
2) Scenario Testing
3) Internal Benchmarking
4) External Benchmarking
5) Hindsight analysis

Question 24

In the context of Internal Benchmarking for Independent risks, what portfolio characteristics are associated with larger CoVs? (Claims Liabs vs Prem Liabs).

Answer 24

Outstanding Claims Liabilities:
- portfolios with longer tails are likely to have larger CoVs

Note: Premium Liabilities have more exaggerated CoVs than their Claims Liabilities counterparts (i.e.: long-tailed portfolios = Larger CoV; short-tailed portfolios = Smaller CoV)

Question 25

Should External Benchmarking be used as the entire basis of the Risk Margin Assessment?

Answer 25

No, it should rather be used as a sanity check, and can provide some benefit where there is little information available for analysis purposes.