Brainscape's Knowledge GenomeTM

Browse over 1 million classes created by top students, professors, publishers, and experts.


See full index

CAS Exam 7 > Brehm #2 > Flashcards

Brehm #2 Flashcards

1
Q

The evolutionary process of decision making using ERM (3)

A
  1. deterministic project analysis - single deterministic forecast where uncertainty is handled judgmentally
  2. dynamic financial analysis (DFA)/risk analysis - uses simulation to produce forecasts of distributions where uncertainty is handled judgmentally &laquo_space;current state
  3. certainty equivalent - extends DFA and formalizes judgment by quantifying corporate risk preferences using a utility function
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
2
Q

Argument for moving towards step 3 in the evolutionary process (certainty equivalent)

A

both shareholders and managers want to maximize market value

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
3
Q

Franchise value

A

= PV (future earnings growth)

*risk management aims to protect franchise value

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
4
Q

Market value

A

market value = book value + franchise value

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
5
Q

Advantages of the certainty equivalent (3)

A
  1. objective
  2. consistent
  3. repeatable
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
6
Q

Corporate risk tolerance

A

combination of factors such as organization size, financial resources, and ability and willingness to tolerate volatility

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
7
Q

Efficient frontier graph

A

plots risk (x) against return (y)

Explore options that either:

  • reduce risk without sacrificing return
  • increase return without increasing risk
  • or scenarios in between
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
8
Q

Economic value added (EVA) formula

A

EVA = NPV (return) - cost of capital

positive EVA = value added
negative EVA = value destroyed

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
9
Q

Economic capital

A

economic capital = VaR at a remote probability (such as 1-in-3000)

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
10
Q

Advantages of allocating capital using economic capital (4)

A
  1. unifying measure for all risks across org
  2. more meaningful to management (vs. RBC/capital adequacy ratios)
  3. forces firms to quantify risks and combine them into probability distributions
  4. provides framework for setting acceptable risk levels for the organization as a whole and individual business units
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
11
Q

Main categories of risk measures (3)

A
  1. moment based
  2. tail based
  3. probability transforms
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
12
Q

Description and examples (2) of moment-based risk measures

A

probabilistic expectations of random variables

ex: variance or standard deviation, semi-standard deviation

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
13
Q

Disadvantages of moment-based risk measures (2)

A
  1. favorable deviations are treated the same as unfavorable ones
  2. may understate risk because lower moments do not adequately capture market attitudes
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
14
Q

Alternatives to moment-based risk measures that better capture market attitudes (2)

A
  1. skewness

2. exponential moments - reflects all losses but is more responsive to large losses E [ Y * exp ( c * Y / E [ Y ] ) ]

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
15
Q

Disadvantage of using tail-based risk measures

A

emphasize large losses only

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
16
Q

Types of tail-based risk measures (5)

A
  1. VaR
  2. TVaR
  3. XTVaR
  4. expected PH deficit (EPD)
  5. value of default put option
How well did you know this?
1
Not at all
2
3
4
5
Perfectly
17
Q

XTVaR tail-measure and idea behind it

A

XTVaR = TVaR - overall mean

idea: if the mean is financed through other funding, capital is only required for losses above the mean

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
18
Q

Expected PH deficit (EPD) tail-measure

A

EPD = ( TVaR - VaR ) * probability of default

where probability of default = 1 - probability level

gives the unconditional expected value of defaulted losses

How well did you know this?
1
Not at all
2
3
4
5
Perfectly
19
Q

Value of default put option tail-measure

A

market value of risk for firm’s right to put claims back to the policyholders if capital or reinsurance is exhausted

20
Q

Description of probability transform risk measures and examples (2)

A

measures risk by shifting more probability towards unfavorable outcomes and computing a risk measure with the transformed probabilities

ex: expected loss under transformed probabilities, weighted TVaR

21
Q

Meaning of marginal risk decomposition

A

change in overall company risk b/c of change in business unit volume should be attributed to that business unit

22
Q

Characteristic of marginal decompositions and examples of common marginal decompositions (2)

A

sum up to company risk measure

ex: standard deviation and TVaR

23
Q

Requirements for marginal decomposition (2)

A
  1. ability to change volume in a homogeneous fashion (ex: quota share)
  2. scalable risk measures - rho ( a * y ) = a * rho ( y )
24
Q

Co-measure

A

sum of covariances = variance

25
Q

Risk factors analyzed in Asset Liability Management (ALM) (4)

A
  1. change in interest rate
  2. inflation risk
  3. credit risk
  4. market risk
26
Q

Paradigms for measuring value in reinsurance (3)

A

reinsurance:
1. provides stability
2. frees up capital
3. adds market value to the firm

27
Q

Marginal ROE

A

marginal ROE = change in cost of reinsurance / change in required capital

When releasing capital (buying reinsurance) want low marginal ROEs that are below the cost of capital

When consuming capital (switching to less expensive reinsurance) want a higher marginal ROE above the cost of capital

28
Q

Method to reduce standard deviation and cost

A

eliminate favorable distributions

cost = lower profitability in the good years

29
Q

Interpretation of the mean when comparing programs

A

avg income/loss

difference = net cost of reinsurance

30
Q

Interpretation of the safety level for comparing programs

A

best case performance in a good year for a given probability level (higher = better)

31
Q

Interpretation of the smallest simulated event for comparing programs

A

worst case loss in a bad year

32
Q

Measuring efficiency in UW results comparison graphs

A

plots loss amounts vs. cost at various probability levels

to be efficient, must have lower loss at a given probability

33
Q

Sources of required capital (2)

A
  1. theoretical models (ex: VaR, TVaR, XTVaR, WXTVaR)

2. practical models (ex: BCAR, RBC, S and P)

34
Q

Disadvantage of using practical models to set capital requirements

A

relies on risk proxies (such as premiums or reserves) rather than the risk itself

35
Q

As-if loss reserves

A

loss reserves that would have existed at the beginning of AY if business had been written in a steady state in all prior years (b/c loss reserves absorb capital)

36
Q

Proxy for amount of capital absorbed by AY

A

proxy for capital absorbed by AY = current reserves + as-if loss reserves

37
Q

Reason combined ratio is a bad cost measure for reinsurance

A

gives a distorted picture of effects of reinsurance on earnings because of impact of high ceded costs on the expense ratio

38
Q

Good cost measure for reinsurance

A

NPV ( expected earnings )

39
Q

Disadvantages of allocating capital (2)

A
  1. Arbitrary- different risk measures give different allocations
  2. Artificial - each business unit has access to insurers total capital
40
Q

Methods to allocate capital (2)

A
  1. Proportional allocation - allocate the total risk measure proportionally using individual business unit risk measure
  2. Marginal decomposition - calculate the overall risk measure and then calculate marginal co-measures for each business unit

(Marginal decomposition is preferable b/c it reflects how the risk from each BU impacts the total risk profile)

41
Q

Benefit to the insurer from purchasing reinsurance for CBA

A

Reduced cost of capital

(Cost of capital = k * required capital) and measure the amount reduced with each option

42
Q

Meaning of stability for measuring value in reinsurance (3)

A
  1. Protects surplus
  2. Improved predictability of earnings
  3. Customers’ assured recovery of losses
43
Q

Asset liability management definition

A

Comprehensive analysis and management of asset portfolio in light of current liabilities and future cash flows of a going-concern company

44
Q

Difference between asset liability management and duration matching

A

Duration matching only considers risk of interest rate changes whereas ALM considers additional risk factors

45
Q

Challenge with duration matching for insurance

A

Variable amount and timing of cash flows

46
Q

Approach (steps) for asset liability modeling (6)

A
  1. Start with models of asset classes, existing liabilities, and current business operations
  2. Select a risk metric (e.g. standard deviation)
  3. Select a return metric (e.g. earnings or ROE)
  4. Determine time horizon and constraints (e.g. regulatory limits on asset classes)
  5. Run model on variety of investment strategies, UW strategies, and reinsurance options
  6. Create an efficient frontier

CAS Exam 7 (21 decks)

Brainscape helps you reach your goals faster, through stronger study habits.
© 2024 Bold Learning Solutions. Terms and Conditions