Assignment 2 Flashcards
Investment Income
Revenue from invested assets
3 Categories of Investment Assets
- Net assets received from products being sold
- Required capital backing product
- Free surplus allocated to the product
What is GAAP Basis
matching revenue with expenses
What is DAC
allows a company to defer the sales costs that are associated with acquiring a new customer over the term of the insurance contract
GAAP Profits vs Stat Profits
GAAP Profits are based on the company’s best estimate for future experience (for mortality, interest, expenses) with an MfAD
STAT Profits use set assumptions set by the government
Risk Discount Rate
Rate equivalent to market rate on investments of comparable risk
Embedded Value
PV by discounting cash flows at risk discount rate
NPV
Difference between PV(profits) and Initial Surplus
IRR
Interest rate where PV(profits) = Initial Surplus Strain
ROE
Changes year to year, ratio of Profit/Equity where equity includes acquisition expenses and target surplus
ROA
Profits/Assets where profits are only those that relate to those assets
MCEV
Market Value of Free Surplus
= MV of required surplus + PV(future profits) - Time Value of financial options and guarantees - Frictional cost of capital - Cost of non-hedgeable risks
Nonforfeiture Benefit
Result of an early regulation designed to protect policyholders from “forfeiting” the equity that had built up in their policy
Nonforfeiture Options Include 4 what
Cash
Extended Term (ETI)
Reduced Paid-Up (RPU)
Automatic Premium Loan (APL)
Why would someone elect to choose ETI
If the insured believes they will die before policy expiration
Why would someone choose RPU over ETI
If they believe they will outlive the coverage
What is RPU
Where the FA is lowered to where the accumulated CV can pay for the remainder of the policy as an NSP
What is asset default
When an asset permanently loses value
Ex.) issuer of bond is unable to make portion of payments
Ex.) Mortgage no longer makes payments, value is reduced to value of collateral net forclosure expenses
What is insurance risk
Risk that actual mortality or morbidity is more adverse than that assumed in pricing
Morbidity Risk
Applies to living benefits (ex. disability insurance)
Mortality Risk
Applies to life insurance
What are the 3 Interest Rate Risks and describe them
- Disintermediation Risk:
Risk that assets will be sold at a loss to cover substantial cash outflow - Guarantee Risk
Risk that interest rate guarantees will exceed interest rates earned - Liquidity Risk
Risk that assets cannot be sold fast enough to meet cash demands of liabilities
How do companies manage Disintermediation Risk
- Invest in assets such that the asset cash flows match the liability cash flows as closely as possible
- Limiting its exposure on products that allow surrender or withdrawal on short notice without any adjustment or penalty
List of 6 other risks
- Mispriced products
- Lawsuits
- Tax changes
- Regulatory changes
- Bad publicity
- Faster than expected expense growth
What is Reinsurance
Insurance for insurance companies where the company accepts the risk is called the “reinsurer”
What is Net Amount at Risk
Net loss on death which would be [DB(t) - Reserve(t)]
What is Retention Limit
Maximum amount that company is willing to lose when one insured dies
What is Reinsurance Treaty
Contract between the company and the reinsurer that details how the reinsurance will work
- Automatic Reinsurance
- Facultative Reinsurance
What is Automatic Reinsurance
The ceding company cannot selectively decide which policies are to be reinsured and the reinsurer must reinsure all covered policies. Typically handled on an excess or first dollar basis
What does “Excess” for reinsurance refer to
The portion of Net Amount at Risk for an insured that is in excess of the company’s retention limit
What does “First Dollar” for reinsurance refer to
Practice of reinsuring a percentage of every risk from the very first dollar of the death benefit, as opposed to just the excess
What is Facultative Reinsurance
Involves 3 steps;
- The company decides it would like to reinsure a particular policy
- Reinsurer reviews the underwriting material and decides whether they want to reinsure the risk and at what price
- The company reviews offers from various reinsurers and decides who will receive the risk, if the policy is placed
What is Expense Allowance
Paid by the reinsurer to reimburse the company for expenses on the business reinsured
What is Brute Force Method
- Develop distribution of policy sizes for product
- Figure percentages reinsured for every size policy
- Develop weighted average percentage reinsured for all sizes combined with the weights based on the distribution by policy size
What is Straight Forward Method
Use the percentage reinsured by age group for a similar product with a similar average size and same retention limit
What is the Finesse Method
Review company’s existing business and develop the relationship between percentage reinsured and ratio of average size to retention limit
