Additional Flashcards
Steps in pricing and design
- assimilate marketing information
- determine assumptions
- determine appropriate model points
- perform profit-test
- perform model office projections
- consider the risks
- amend the structure
List the items that an insurer will need to choose a methodology and basis for in order to calculate EV
A methodology is required to
- value the assets
- value the liabilities
A basis is required for the following items in order to calculate the PV of future profits
- investment returns earned on reserves
- mortality
- expenses
- expense inflation
- surrender rates
- rates of conversion to paid-up
- risk discount rate
a basis is also required to value the liabilities
Financial strength
refers to a company’s ability to:
- withstand adverse changes in experience
- fulfil its new business plans
- meet policyholders’ expectations
Conditions for actuarial funding & constraints on its use
- high fund management charges should be available on at least some of the units
- after actuarial funding, the residual regular non-unit cashflows should remain positive in all future years when projected on a prudent basis
- this usually means that not all future fund management charges can be actuarially funded
- an appropriate unit surrender penalty should be in place, such that the surrender value cannot be greater than the actuarially funded unit reserve value at surrender
- there may be statutory constraints
Determining the risk margin using the cost of capital approach
pg.1280
Principles a life insurance company should follow when establishing supervisory reserves
- the reserves should cover all liabilities arising from the contract
- the reserves should be calculated prudently, allowing for all relevant liabilities
- the reserves should take credit for future premiums if these are contractually due to be paid
- the valuation should be prudent and so the basis should contain margins
- the valuation of the liabilities should be consistent with that of the assets
- appropriate approximations or generalisations may be allowed
- the interest rate used for calculating reserves must be chosen prudently, taking into account the currencies, yields and reinvestment yields on assets
- the demographic, withdrawal and expense assumptions used should all be prudent, taking into account the type of insurance and country of residence but the expenses can be on an ongoing business basis
- if no explicit allowance is made for future bonuses, then they must be allowed for implicitly by a suitable adjustment to the valuation interest rate
- if the valuation method itself defines the amount of expenses assumed, then the amount implied must be no less than a prudent estimate of the relevant expenses
- the valuation calculations conducted over time should not suffer discontinuities arising from arbitrary changes to basis
- however, the basis should be active and appropriate to current circumstances
- the valuation method should recognise the emergence of profit appropriately over the policies’ lifetimes, so as to match the assumed future regular bonus
- valuation bases and methods should be disclosed
Why is financial underwriting important?
- to make sure that the policyholder is not over-insured. over-insurance poses a moral hazard
- affordability
- selective lapsation
Practical problems faced in allocating actual investment returns to the asset share build up
- assets on WP and NP are likely to be combined. Decision needs to be made on how to allocate investment returns to areas of business and between tranches of business
- this may also be dependent on the appropriate asset mix of each of the tranches of business
- the actual investment return cannot always be directly observed. Some approximate method will need to be used to determine return on these assets e.g. use of indices
- available indices may not accurately reflect the actual underlying assets held
- the return allocated to asset share may be smoothed over time. The extent of smoothing is subjective
- investment returns should be net of tax
- need to allow for the accrual of tax on unrealised gains
- the actual investment return needs to be reduced by investment expenses. some approximations may be needed
- the data quality and detail necessary for calculation may not be available
- accurate calculations may only be done periodically. Some approximation is required for the intermediate terms
Principles when providing bonus recommendations to board
- PRE
- equity
- financial soundness of company
- availability of shareholder capital
- consistent with company’s investment strategy
- consistent with stated bonus philosophy
- competitive
- sustainable
- consistent with professional guidance/regulation
- tax
- business objectives/strategy
Internal unit-linked fund
An internal unit-linked fund:
- consists of a clearly identifiable set of assets e.g. equities
- is divided into a number of equal units consisting of identical subsets of the fund’s assets and liabilities
- the division is notional
Principal risks to insurer of setting unit prices
June 2012 Q5 ii
- unit prices are generally set at discrete points in time, whereas the values of the underlying assets effectively change continuously
- this is a particular risk if…
- the unit price calculation would include some approximations
- there could be errors in the actual unit price calculations
- regulations may restrict what policy charges, for example, may be included in the unit price
- negative market perception if violates equity principle
- impact of approximations/errors
Requirements for actuarial funding
- there must be a unit-related charge on the unit fund
- the charges that are not used for actuarial funding should be sufficient to cover the renewal expenses on the contract
- the face value of units should only be available on contingent events
- actuarial funding must be permitted by regulation
possible cross-subsidies
- old and young
- other known rating factors
- ill and healthy at entry
- policy size
- early and late withdrawals
Factors to consider in setting retention limit
- expected claims distribution & volatility
- expected volumes of business
- experience on other reinsurance
- the confidence and familiarity of the company in writing this business
- other products’ retention limits
- impact on regulatory capital requirements of different retention limits
- risk appetite of the company
- importance of stable free asset ratio
- free assets of the company
- price of reinsurance
- whether profit share is included
- impact of various retention levels on profitability and probability of insolvency
- the opinions of the reinsurer as they should have experience in this regard
Advantages of standardising claims criteria across the industry
- such standardization would have to be agreed by the various insurers, so the companies’ expertise would be pooled to come up with the best solution
- there will be a sharing of current and future expertise on the topic of medical advances, which will bring costs down for the various players in the market
- the standardized definitions are likely to be free of ambiguity
- this should lead to quicker claims settlement because there should be less room for dispute
- from a marketing perspective, standardized definitions could result in:
- easier comparison between different companies’ products
- improved explanation from salesforce
- better understanding by policyholders of the products
- possible improvement in sales
- standard definitions should make it easier to collect industry-wide data, which should lead to better information on which to base pricing
- these benefits also apply to reinsurers
Appropriateness of alteration basis
- PRE
- contribution to profit
- expenses
- boundary conditions
- lapse and re-entry risk
- small change in benefit
- frequency of changes
- ease of administering and communication
- competition
Four main factors that affect the capital requirements for a company
- contract design
- frequency of premium payment
- relationship between premium and supervisory reserving basis
- the level of initial expenses
Considerations when making a policy paid-up
- the basis needs to be such that the conversion to paid up is affordable and can be supported by the earned asset share
- should be consistent with the projected maturity value, allowing for premiums not received
- should be consistent with other alterations such as surrender values
- surrender value should be consistent before and after such alteration to avoid lapse and re-entry
- basis should result in a paid-up value that is consistent with any information disclosed at new business stage in line with PRE
- paid up rates offered by competitors should be considered
- basis and any changes should be documented clearly
- the calculation should be simple to understand
Proportionate method vs equating policy value method for paid-up
Nov 2010 pg.7
pg 781
Asset-enhancing reinsurance
- it may be used to unlock a portion of the value of the profitable in-force business or discounted cashflows on policies
- the VIF is the excess of the statutory reserves over the realistic reserves
- VIF will be released over time, but is currently an off-balance sheet, non-tangible asset
- in exchange for entering into a reinsurance contract on existing business, the reinsurer gives the insurer cash now
- this is paid back over the next few years from the future emergence of the VIF as future profits
Negative non-unit reserves (to reduce initial business strain)
- can be held for policy under which future charges are expected to be more than sufficient to meet future non-unit liabilities
- negative non-unit reserves thus reduce the total reserves required by taking advance credit for the EPV of these future positive cashflows
- the reserve represents a loan from other contracts which have positive non-unit reserves
- the loan will be repaid by the emerging future profits from the policy for which the negative non-unit reserve is held
Constraints of negative non-unit reserve
- may not be permissible under local legislation
- the sum of the unit and non-unit reserve for a policy should not be less than any guaranteed surrender value
- the future profits arising need to emerge in time to repay the loan
- after taking account of the future non-unit reserves, there should be no negative cashflows for the policy
- in aggregate, the sum of all non-unit reserves should not be negative
- the negative non-unit reserve should be determined prudently
Regulatory restrictions (besides on investments)
- restrictions on the type of contracts a life insurer can sell
- restrict the premium rates that can be used on some type of contracts
- requirements relating to the terms and conditions offered
- restrict the distribution channel:
- the channels through which the life insurance may be sold
- the procedure to be followed for a sale
- minimum qualifications requirements for the sales staff
- the information to be provided as part of the selling process
- remuneration rules - restrictions on the ability to:
- underwrite
- differentiate between classes of lives - constraints on the amount of business that can be written
- restrictions on permissible reinsurance
- requirements to TCF
Advantages of cashflow method over formula method to calculate reserves
Advantages
- the cashflow method allows for assumed experience to vary over time e.g. mortality improvements
- this allows a stochastic model to be built for deriving the distribution of reserve level and for valuation of options
- allows for withdrawal experience explicitly
- it allows more easily for complex benefit structures e.g. where charges and benefits depend on future assumptions such as unit-linked business
- the risk discount rate can take into account the term structure of interest rates
- tax can be allowed for more appropriately
- can more easily allow explicitly for future bonuses
Disadvantages of cashflow method over formula method to calculate reserves
- formula method is much easier and quicker to calculate
- formula method doesn’t require establishing complex and expensive models
- formula method requires fewer assumptions
Factors to consider when determining terminal bonus rate
- whether it will be affordable or negatively impact the solvency of the company
- set relative to difference between asset share and benefits guaranteed to date at policy maturity date
- bonus distribution should be fair to different categories and generations of policyholders
- insurer will want to smooth payouts to reduce the impact on policyholders of fluctuations in investment markets
- PRE
- insurer will need to comply with terms and conditions
- the affordability will be considered in light of future business plans and terminal rates declared by competitors
Gross premium valuation method for determining reserves
june 2015 Q2 ii
Approach to setting surrender values
June 2015 Q6i
Reasons for holding free assets
1.the main reason is to ensure that policyholder obligations are met even if future experience is worse than expected and actual liabilities higher than the current expected level
2. a minimum level will probably be required by the regulator
3. finance future new business strain
4. enable less reinsurance to be purchased
5. enable a less restrictive investment strategy to enhance expected returns
6. support management strategies e.g. business acquisition in specific areas or take advantage of other profitable opportunities as they present themselves
7. smooth dividend payments to shareholders
8. smooth surplus distribution and thus support policyholder expectations
9. provide confidence to shareholders, policyholders and brokers
10. improve credit ratings
Dynamic solvency testing
Dynamic solvency testing is a projection of the company’s revenue account and balance sheet for a specified future period
The projection could be done deterministically or stochastically. If deterministic, the projection basis should include possible adverse scenarios
Benefits of dynamic solvency testing
- to assess how well the company can withstand variations in both economic elements of experience as well as demographic adverse experience, which cannot be appreciated with a static solvency test
- the insurer is growing rapidly and will require significant capital to finance new business strain. DST will demonstrate whether there is a risk of insolvency given new business growth scenarios
- to assess the impact on solvency of any other decisions e.g. business acquisition, reinsurance changes and investment strategy
- depending on the type of product and level of guarantees being sold, the insurer can assess its risk of insolvency as a result of adverse experience on items being guaranteed
- DST will thus allow management to take corrective action before solvency deteriorates to an unacceptable level
Considerations for investment of free assets
- maximise return subject to risk appetite
- results of DST in combination with risk appetite
- finance new business strain
- nature, term and currency of liabilities and how well-matched they are
- excess above regulatory requirements
- size of free assets
- ethical investment restrictions
- policy expectations for smoothed bonuses
Advantages of UWP over WP to insurer
- can reduce new business strain under UWP through product design
- bring product offering more in line with that of competitors
- more acceptable to have reviewable charges
- more acceptable to have little (or no) guarantees
- easier to understand which could lead to more new business
- new PRE can be created by wording marketing material differently
Disadvantages of UWP over WP for insurer
- more expensive to administer
- product is similar in structure to unit-linked business which means there are more companies to compete against
- reversionary bonuses tend to have a higher cost of bonus in the early years
- this results in less deferral of surplus
Advantages of UWP over CWP for policyholders
- The UWP product is easier to understand due to:
- explicit charges
- bonus as a % of unit fund
- UWP product is generally more flexible e.g. can be converted to unit-linked
- UWP is arguably more equitable as companies tend to hold back less surplus
Disadvantages of UWP over CWP for policyholders
- less smoothing takes place as companies tend to hold back less surplus
- could lead to reduced return due to less deferral of surplus
- charges not guaranteed
- if claim early on policy, benefit generally lower than what it would have been under CWP
Market consistent approach to valuing liabilities
June 2016 Q6
Ways of allocation UWP bonuses
- the price of the unit remains fixed and the insurer allocates additional units to each contract at the bonus declaration. There could be a minimum bonus declaration of zero or some percentage
- the insurer changes the price of the units (usually on a daily basis). The increase is made up of the guaranteed part and a bonus part
Key differences between UWP and unit-linked contracts
- there is a difference in the way that the insurer determines the price of the units and therefore the benefit payable
- for unit-linked business, there is a direct link to a specified pool of assets, with the unit prices being adjusted as and when underlying asset values change
- with UWP business, bonuses are allocated to the UWP fund at the discretion of the insurer
- the key distinction is the discretion that the insurer has over the bonuses granted - for UWP, a terminal bonus could be added when the insured event occurs
- for unit-linked business, there is no terminal bonus when the insured event occurs as unit prices change when the underlying asset values change - For UWP, the insurer takes a longer-term view of investment returns and smooths the bonuses it allocated
- for both products, the surrender value will usually be the fund value
- however, for UWP, the insurer may decide to apply a MVA at its discretion on surrender - charges higher on AWP because of guaranteed minimum bonus of 0%
Describe how a cashflow model could be used to determine the value of the expected future
profit from the in-force UWP business.
Q2 iii June 2017
Give 8 examples of how the regulatory framework might limit what a provider wants to do in terms of investment
TECH SCAMS
1. types of assets the insurer can invest in
2. extent of mismatching
3. currency matching requirements
4. hold certain assets (prescribed assets e.g. invest a minimum proportion of assets in specific types of investments)
5. single counterparty maximum exposure
6. custodianship of assets (regulations might require independent custodians)
7. amount that can be invested in particular assets
8. mismatching reserve
9. solvency: assets that can be included for the purpose of demonstrating solvency/solvency capital may have to be invested in specific assets
Modelling to determine investment strategy
- project asset and liability cashflows over defined period
- cashflows can be used to determine asset, liability and solvency values
- model points chosen to represent in-force business
- new business model points
- set assumptions
- choose which variables to model stochastically and which to model deterministically
- a starting investment strategy will be tested by performing a large number of projections and deriving a distribution of the solvency level at the end of the projection period. This will be achieved through a combo of stochastic simulations and deterministic sensitivity tests
- alternative investment strategies will also be tested
- the optimal investment strategy is the one that meets the insurer’s risk-return preference
Factors affecting marketability
- with profit
- benefit design and definition
- premiums and charges
- distribution
- underwriting requirements and entry restrictions
- simplicity
- reputation & uncertainty for policyholders
Factors to consider choosing between reinsurers
- price, profit sharing, reinsurance commission
- experience & technical assistance
- credit rating
- treaty conditions
- current relationship
- financial reinsurance
- cost of solvency requirements
Needs met by IP
- IP provides portion of income when policyholder becomes unable to work
- maintain standard of living for those on disability and state benefits usually insufficient
- used to service loans
- used to pay other insurance premiums
- used to protect the partnership by replacing income lost due to incapacity of one of the partners
Reasons for analysis of EV profits
NERDVPM
0. show financial effect of writing new business
1. reconcile values for successive years
2. data for use in executive remuneration schemes
3. validate data, calculations and assumptions used
4. show financial effect of deviations between best estimate assumptions and actual experience
5. provide detailed information for publication of company’s accounts
6. provide management information
Advantages of contribution method for policyholders
- the bonus is received earlier than on the insured event
- less subjective decisions which protects the policyholder against ungenerous companies
- the bonus may appear fairer
- may be tax advantages depending on how cash dividends are taxed vs final payout
Disadvantages of contribution method for policyholders
- the returns may be reduced due to the non-deferral of surplus
- reinvestment risk for the policyholder
Advantages for the company of contribution method
- Marketing: the policyholders may more easily understand the basis, hence more sales
- Marketing: policyholders may like the certainty of receiving the benefits sooner, hence more sales
Factors to consider when setting bonuses
- PRE
- investment returns
- guarantees
- funding levels/free assets
- solvency
- profits from other sources
Errors in unit pricing
- not changing pricing basis when the flows for the portfolio change direction
- incorrectly allowing for tax in the unit pricing process
- using the incorrect bid/offer spread
- errors in the pricing of assets
- incorrect/outdated current asset and current liability values
- system malfunctions or breakdowns resulting in delays in available pricing
Difference between coinsurance on original terms and coinsurance using level risk premium approach
Coinsurance on original terms
- the insurance company sets the premium, and the reinsurance premium is in direct proportion to this
- the amount of commission agreed with the reinsurer sets the price of the reinsurance arrangement and is usually very significant
Coinsurance on level risk premium
- the reinsurer sets a level premium for its share of the risk, based on its share of the full sum assured
- the insurer then calculates its own premium rates in the knowledge of reinsurance premiums it will be paying
- the reinsurance commission is not usually significant
reasons for underwriting
SAFARI HAM
- avocational underwriting allows an insurer or reinsurer to manage their exposure to HAZARDOUS pursuits
- underwriting is the process that ALIGNS the risks written by a company with the pricing performed by an actuary
- Manage their exposure to certain countries and occupations and will underwrite for these risks.
What are care costs comprised of?
- living costs
- housing costs
- personal care costs
- recuperative costs
Methods for pricing guarantees
- market option pricing method
- consider market prices for options that replicate the guarantee e.g. european put option on interest rates, call options on bond prices, or swaption prices
- option terms (interest rate, duration) should reflect the annuity guarantee
- if market prices not available, estimates can be provided by market participants - stochastic simulation method
- using a stochastic model of interest rates, project those interest rates to those ages where the option could be exercised
- assess the probability of interest rates falling below guaranteed rates, and the average difference, and apply the projected fund value to estimate the potential cost
- calculate a discounted value of the projected cost
Profit extracted with prospective SV
- if basis is original premium basis, extracts historic profit
- if basis is best estimate, extracts historic profit + future margins
How to calculate appropriation price
The appropriation price is the price at which a unit would be created and is determined as:
- the net asset value of the fund on an offer basis
- divided by the number of units existing at the time of calculation (before any new units are created)
The net asset value of a fund on an offer basis is calculated as
- the market “offer” price of the assets held by the fund
- plus the expenses that would be incurred in the purchase (including stamp duty)
- plus the value of any current assets (e.g. cash on deposit)
- less the value of any current liabilities (e.g. investments purchased but not yet settled)
- plus any accrued income (e.g. interest income on deposits) net of any outgo (e.g. fund charges)
- less any allowance for accrued tax, if applicable
Profit on surrender
- EAS - SV
- this can be separated into two parts: the profit earned to date and the capitalised value of the profit that will arise in the future due to differences between the original premium basis and the surrender value basis.
Treating customers fairly
- terms and conditions and are they unfair
- premiums and value for money
- sales and underwriting procedures
- information given to customers at point of sell
- explain complexities of product
- rating factors are justified
- claims process not unfair or unduly onerous
Benfits considerations for IPP
- attractive to employers and employees
- appropriate disability definitions
- consider salary just before disability and appropriate replacement ratio
- benefit escalation rate
- term of benefit
- timing of benefit payments
- appropriateness of waiting period
- whether there will be a proportionate benefit on partial return to work
- regulatory requirements or restrictions
Reasons for analysis of surplus
DNV RIM
- show the financial effect of divergences between assumptions and actual experience to determine which assumptions are the most financially significant
- provide management information on trends and experience of the company
- check on valuation data and process if carried out independently
- identify non-recurring components of surplus
- show the financial effect of writing new business
- comply with regulatory requirements
Active vs passive valuation
- passive valuation uses a methodology that is relatively insensitive to changes to market conditions and a valuation basis that is updated infrequently
- an active valuation is based more closely on market conditions and assumptions updated frequently
- passive valuation may use locked in assumptions
- under passive valuation, assets may be determined
Active vs passive valuation
- passive valuation uses a methodology that is relatively insensitive to changes to market conditions and a valuation basis that is updated infrequently
- an active valuation is based more closely on market conditions and assumptions updated frequently
- passive valuation may use locked in assumptions
- under passive valuation, assets may be determined
Active vs passive valuation
- passive valuation uses a methodology that is relatively insensitive to changes to market conditions and a valuation basis that is updated infrequently
- an active valuation is based more closely on market conditions and assumptions updated frequently
- passive valuation may use locked in assumptions
- under passive valuation, assets may be determined
Active vs passive valuation
- passive valuation uses a methodology that is relatively insensitive to changes to market conditions and a valuation basis that is updated infrequently
- an active valuation is based more closely on market conditions and assumptions updated frequently
- passive valuation may use locked in assumptions
- under passive valuation, assets may be determined
Active vs passive valuation
- passive valuation uses a methodology that is relatively insensitive to changes to market conditions and a valuation basis that is updated infrequently
- an active valuation is based more closely on market conditions and assumptions updated frequently
- passive valuation may use locked in assumptions
- under passive valuation, assets would be based on historic cost perhaps with amortisation. under active approach, assets would be based on current market value
- under passive, capital requirements may be determined using a simplified approach whereas under active, capital requirements may be determined using a risk-based calculation
Advantages of active
- more realistic reflection of actual financial position
- capital requirements calculated using risk-based method, more accurate and informative
- identify trends faster and take corrective action sooner
Disadvantages of active
- more complex and costly to perform
- more complex for management to understand and explain
- requires more subjectivity
- greater volatility of financial results
Confusing aspects of Ip
- the definition of incapacity and the measure of fitness to work are not always open to objective assessment
- payouts are not always linked to current salary
- it may be necessary to apply benefit limits
- underwriting can be complex
- there may be exclusions
Criteria for inclusion of a CI
- it is a condition perceived by the public to be serious and occur frequently
- each condition can be defined clearly so that there is no ambiguity at time of claim
- sufficient data with which to price the benefit
EAS
+ premiums
+ investment income
+ miscellaneous profit
- commission and expenses
- cost of all benefits in excess of asset share
- tax
- profit transfers to shareholders
- cost of capital required to support new business strain
- contribution to undistributed surplus
Revalorisation
- bonuses under revalorisation are granted by increasing the reservers, benefits and premiums by a percentage
- in determining percentage, it is common to divide the surplus into a savings profit and an insurance profit
- a high proportion of savings profit is usually given to policyholders, with the rest for shareholders
- insurance profit may go to shareholders or be divided between
Contribution
- each policy receives a share of the surplus in proportion to its contribution to surplus
- however, for this purpose, policies are classified into homogeneous groups
- surplus for each policy determined according to formula for investment, mortality and expense profit
- dividends may be paid as a cash sum, converted to addition to benefits, or used to reduce future premiums
- terminal dividend
Requirements of models
VARIABLE CRISPS CARD
Advantages of stochastic
- can be used to value options and guarantees
- produces likely distribution of outcomes
- the interactions between variables can be explicitly included, enabling the effect of the interactions to be assessed
- can be used to estimate a probability
When can deterministic be used
- with sensitivity testing, in order to get an approximation to a stochastic result
- where the result obtained would be very similar to a stochastically produced result
- as a check on a stochastic model
In designing a product, the following needs to be considered
- meeting customer needs
- profitability
- marketability
- competitiveness
- financing requirements
- risk characteristics
- onerousness of any guarantees
- sensitivity of profits
- extent of cross-subsidies
- administration systems
- consistency with other products
- meeting regulatory requirements
Factors affecting riskiness of business
- lack of historical data
- untested market
- high guarantees
- policyholder options
- complex product designs
- overhead costs
EV
- EV is the PV of shareholder profits in respect of the existing business of a company, including the release of shareholder-owned net assets
It can be calculated as the sum of: - the shareholder-owned share of net assets, where net assets are defined as the excess of assets held over those required to meet liabilities
- the present value of future shareholder profits arising on existing business
Appraisal value
EV + goodwill
Net premium method
- it is simple
- implicit allowance for expenses
- implicit allowance for bonuses
- not suitable for single premium
- relatively insensitive to changes in basis
- doesn’t capitalise the profit margins in the future gross premiums
Assumptions required to value mortality options
- option take-up rate
- benefit chosen
- mortality of those that exercise and those that do not
- expenses relating to the option
How to value liabilities for IP
- multi-state modelling
- claim inception and disability annuity approach
Three variations in claim inception rates
pg.854
Reasons for reinsuring
- reducing parameter and claim payout fluctuation risks
- finance new business strain
- technical assistance
- reduce expenses
- benefiting from regulatory or tax arbitrage opportunities
data checks
- data movements/reconciliation
- consistency
- unusual values
- AoS
Expense control
- monitor the position regularly
- monitor competitor’s expense ratios
- monitoring systems in place to pick up upward slippage in commission
- control staffing and salary levels
- attempt to sell more business
- improve operational efficiency
- increase premium loadings
Persistency control
- different distribution channel
- alternative commission structure
- improve sales method so that policies are sold more strictly to meet customer needs
- restrict premium payment methods
Why monitor experience?
- to develop earned asset shares
- update assumptions
- monitor adverse trends
- management information
Cost of mortality option
- value of the excess of the premium that would have been charged, in light of full underwriting information, for the additional assurance over the normal premium rate that is charged
- the additional cost of the option depends on the health status of those who choose to exercise the option
- there is a significant risk of anti-selection which is linked to proportion who choose to exercise option
Factors impacting cost of mortality option
- encouragement given to policyholders to exercise
- conditions attaching to the exercising of the option e.g. sum assured cannot be greater than original sum assured
- the amount of underwriting underlying new business rates at the renewal date as this affects the gap between select and ultimate mortality experience
- the default option
- the extra cost of the option (charged to policyholders during the original term). Relatively high additional premiums could lead to selective lapses
- the length of original policy
- the number of option dates
Marketability question
- Nov 2014
- Q3
Factors affecting marketability
DRUGS PWD
- with-profits
- definition of disability and structure of benefit
- premiums and charges
- distribution channel
- underwriting requirements and eligibility restrictions
- simplicity
- reputation
- guarantees
Needs met by immediate needs annuity
- converts capital sum into level income for future lifetime of the policyholder
- useful for providing income in retirement
- the level annuity satisfies the need for certainty of income amount
- the annual once-off bonuses could provide compensation for the increase in cost of living
- the annual dividend could satisfy the need for discretionary spending
- if there is a guarantee period or a spouse’s annuity, this can provide for dependents on death of annuitant
Group policy
- group business is insurance covering a number of individuals under a single policy
- there is often a sponser, e.g. employer, who is the policyholder in the group scheme
- individuals own their separate policies
- only those belonging to the group may buy cover under the group arrangement
- group schemes are short-term contracts, usually one-year renewable
- limited medical underwriting
- free cover limit
- benefit determined according to formula e.g. related to salary
Advantages of actuarial funding
- write more new business
- reduce cost of capital and increase profitability
- pass on benefits of reduced cost of capital to policyholders via lower charging rates
- reduce investment risk
Main ways in which risk premium reinsurance can vary
- sum assured or sum at risk
- recurring single premiums that varies
- level regular payments
- QS or surplus
- under surplus - retention is constant
- under QS, proportion is constant
- guaranteed rates
- rates might not be guaranteed
- facultative and obligatory
Factors to consider when choosing retention limit
- the mix of business by initial sum assured
- the level of underwriting
- the types of reinsurance contracts available
- the cost of reinsurance and how this varies with different retention limits
- your experience in the market
- free asset ratio
- cost of capital
- modelling investigations, which may be used to determine the optimal balance between retention level and amount of claim fluctuation reserve used
- the size of the company and how well it can cope with fluctuations in claims experience
- level of new business strain for the contract
- expected volumes of business
- what is the expected age of the applicants as this will affect the variance of claims outgo
Various risks to insurer’s solvency
- experience worse than expected
- deterioration in new business mix
- new business volumes decline or explode
- new business strain causes solvency problems
- discretionary payments to policyholders too large
- surrender payments exceed asset share
- creditors default
- supervisory authority imposes special restrictions or closes company to new business due to misconduct or insufficient financial strength
- systems/staff unable to cope with new business
- fraud, mismanagament
Would bonus philosophies have a direct impact on asset shares
The bonus philosophies should not have a direct effect on the asset shares since asset shares comprise actual cashflows
Why supervisory reserves and solvency capital are normally included in cashflow model
- supervisory reserves and solvency capital will often result in an initial capital strain
- there will therefore be a need for capital from external sources
- the providers of this capital will usually want a return on this capital e.g. risk discount rate, and this is conveniently allowed for in the cashflow model
- the profit flows will be altered, and the ultimate profitability will be impacted by this need for further financing
- the requirement for capital may restrict a company’s capacity in other functions of development and ongoing operations
- e.g. investment strategy may be restricted
- these components will be particularly important when completing model office projections into the future to identify calls on capital in the future
How to determine appropriate level of retention
- June 2010 Q5i
What to consider when choosing between reinsurers
- whether the reinsurer is able to provide the necessary cover
- since there is some cost to changing reinsurers, how well has your current reinsurer served you
- past knowledge/experience of reinsurers
- should you go with only one reinsurer or multiple
- cost of reinsurance from each company
- what expertise they are willing to bring to the table
- does any reinsurer have particular expertise in your target market
- what terms and conditions does each reinsurer impose
- the financial strength of the reinsurer
- do the reinsurers offer profit sharing, and at what level
Why company may have lost market share
- premiums may have become uncompetitive
- don’t have bells and whistles on their policies that competitors have
- more, or more effective, marketing by competitors
- competitors may offer sign up gifts or loyalty programmes
- may pay lower commission than competitors
- may be focusing efforts on other products
- reputation for inefficient admin
- reputation for inefficient payment of claims
- target market may have low average disposable income and cannot afford
- underwriting may be stricter
- loss of reputation in the market
- smaller free assets than major competitors making it appear weak
- may not be in a position to expand new business e.g. insufficient capital, staff and systems can’t cope
Importance of financial underwriting
Q2 June 2011
- make sure that the policyholder is not overinsured (moral hazard)
- affordability
- selective lapsation
Key issues you may come across when trying to perform financial underwriting
- sometimes financial underwriting is easy to do when policyholder is formally employed
- a lot may be self employed so getting proof of income is not straight forward
- moral hazard from incorrect information
- unpopular with potential policyholders
- unpopular with distribution channels as it slows time taken to accept proposal
- companies asking for proof of income can be at a competitive disadvantage
- business insurance - balance sheets and income statements
- carrying out financial underwriting can be an expensive exercise
Market consistent value of unit endowment
- Q4 ii, June 2011
Uses for asset share in management of a life insurance company
- bonus declarations
- surrender values
- monitor fairness
- market value adjustment factor
- policy alterations
- profit distribution
- planning
Asset-liability modelling to determine probability of insolvency for a specific investment strategy
June 2012, Q4 iii
Internal unit-linked fund
- consists of a clearly identifiable set of assets
- is divided into a number of equal units consisting of identical sub-sets of the fund’s assets and liabilities
- the division is notional
Examples of cross-subsidies
- old vs young
- known rating factors e.g. smoker status and sex
- small vs large benefits
- early vs late withdrawals
- healthy vs unhealthy (due to limited underwriting)
Suggest types of reinsurance question
Q8 iv June 2012
Investment strategy question
June 2013 Q1
Question on surplus
June 2012 Q3
How an AoS might be used to check your data
- An AoS shows the sources underlying the profit. For experience items, the profit will be based on the difference between actual and expected experience
- if any of the items appear to be significantly different from the prior valuation, then this could indicate a problem with the data
- specific checks:
- check for unrealistic/unusual values in the analysis
- check the ratio of new business profit to premium income for new business - if this has changed in an unexpected way from last time, this could indicate a problem with the data
- check the investment profit against the investment manager’s report showing the return over the period compared to the prior valuation
- check experience item profits against accounts and compared to prior valuation
- check initial expenses in the account against new business profit and volumes
- if the sum of the components does not tie up to the total profit, this could indicate data errors
Items not usually part of the valuation basis
- initial expenses
- initial commission
- profit margin
Risks of closing to new business
- may introduce immediate liquidity risk due to non-payment of premius and surrender benefits
- extent of risk depends on mix of regular premium and single premium business
- withdrawals may have a selective effect and mortality experience may worsen
- as volumes decline as book runs off, fewer policies over which to spread fixed expenses
- mortality experience more volatile
- costs associated with closing the book that are higher than expected
- fewer assets, diversification becomes more complicated, resulting in higher investment risk
- reputation of the company e.g. retrenchments, poorer service due to fewer staff
- reduced staff may result in operational risk
Why perform an analysis of withdrawal experience
- to update pricing assumptions to ensure premiums/charges are robust to changes in withdrawal rates
- to update reserving assumptions
- to update EV assumptions
- provide management information
- rates can be used when setting surrender penalties
- make projections for the future
- to detect and understand any trends
- AoS
- compare with industry experience and investigate any significant differences
- would allow identification of any problematic products or distribution channels
- the persistency of various distribution channels can be incorporated into remuneration
- production of management information reports
- may be required by legislation
Manage risk associated with guaranteed insurability option
- limit the sum assured available under the options
- limit the term on the carrier contract
- restrict the choice of contract available under the option
- limit the time available during which each option needs to be exercised
- ensure that any exclusions on the carrier contract also apply to the option
- encourage all policyholders to take up the option
- keep the additional premiums in respect of the option contract low
- do not guarantee the premiums that will be offered on the option contract
- underwrite initially as though option will be exercised
- price conservatively initially
- arrange for suitable reinsurance treaty
- use lower retention limit that normal
General economic and business environment considerations
- volume and mix of new business
- actions of distributors
- competition
- economic environment
- legal, regulatory and fiscal developments
- expenses
Considerations when deciding on split between RB and TB
- past company practice
