CH 17 (WM)

Question 1

Describe how the actuary will use the assumptions for New Business volumes. [1.25]

Answer 1

• New business volume should be assessed in order to choose per-policy contribution to cover fixed expenses, ✓✓
• and to judge adequacy of capital to support new sales. ✓✓
• i.e.launch a new product. ✓

(for each answer, state to do what)

Question 2

Describe the risk faced w.r.t. new business mix. [1.5]

Answer 2

• Any cross-subsidies in pricing basis will create a risk that business mix is not as expected.✓✓
• by choosing an average assumption over a group of policies an insurer lays itself open to anti-selection if more higher risk policies are in force.✓✓
• this will occur if a competitor uses more detail and takes all the lighter risks, leaving other insurers with heavy risks.✓✓

Main issue here is the risk of anti-selection.

Question 3

Assumptions may be needed for mix of business by? [3]

Answer 3

• Type of product ✓
• Average policy size ✓
• Sex and Age ✓✓
• Distribution channel ✓
• SEC status, income or occupation ✓✓
• Territory ✓
• Health status ✓
• New and renewal business ✓✓

Question 4

Where does average policy size fit in business mix? [1]

Answer 4

• used for allocation of expenses, eg sum insured ✓✓
• average policy size may be linked to socio-economic profile of target market ✓✓

Question 5

Why do the actuary need to make assumptions for the “split by product”? [1]

Answer 5

• enables indirect expenses to be allocated correctly by contract ✓✓
• allocation of SCR within pricing calculations ✓✓

allocation of… (x2)

Question 6

Why do the actuary need to make assumptions for the “split by distribution channel”? [1]

Answer 6

• Where healthcare insurance products are priced uniformly but sold through different channels, projections by each channels are needed.✓✓
• This is important where commission levels paid are actually different to those assumed in pricing basis.✓✓

Question 7

Why do the actuary will need to make assumptions for the “split by territory”? [1]

Answer 7

• Health risk can vary substantially by territory and even significantly between different regions within one country. ✓✓
• The actuary may use territory as a rating factor. ✓✓

Question 8

Why do the actuary will need to make assumptions for the “split by gender”? [1.5]

Answer 8

• In some territories and for some lines✓, the market practice may prohibit the use of this factor in pricing healthcare.✓✓
• Morbidity risk will almost certainly vary by gender✓ and thus the actuary will need estimates of relative numbers & sizes so that the correct unisex price is charged.✓✓

Question 9

Why do the actuary will need to make assumptions for “split by age”? [1.25]

Answer 9

Market practice may dictate insurers may not discriminate by age in pricing some health product lines. ✓✓
Health risk increases with age, ✓ and thus the actuary will need to estimate the age distribution by cover option so that accurate uniform age prices can be charged. ✓✓

Question 10

Why do the actuary will need to make assumptions for “split by SEC status, income or occupation”? [1]

Answer 10

• this might increase propensity to claim ✓✓
• therefore insurer must monitor this mix to ensure adequate premium can be charged over whole portfolio. ✓✓

Question 11

Why do the actuary will need to make assumptions for “split by health status”? [2]

Answer 11

• In some countries insurers are prohibited from discriminating by health status✓✓, i.e. use it in underwriting.✓
• Health status, particularly chronic conditions✓, will impact on the risk of the PH✓, and the actuary will need to estimate the prevalence of chronic conditions amongst PHs✓ by cover option so that accurate prices can be charged.✓✓

Question 12

Why do the actuary need to make assumptions for “split by new and renewal business”? [2.25]

Answer 12

• ST policies, e.g PMI are usually renewed annually.✓✓
• The renewal costs are likely to be lower than the cost of writing NB.✓✓
• However, premiums are rarely differentiated for new and renewal business due to marketing pressures.✓✓
• i.e. if an insurer charged higher premiums for new business then new business volumes might be lower.✓✓
• Therefore they should monitor this split to ensure premiums are adequate across whole portfolio.✓

Question 13

Define the term “risk-free” asset. [1]

Answer 13

It is an asset that offers a certain return, absolutely free from all risk of default.✓✓
Risk free assets are sometimes taken to be government bonds in stable countries.✓✓

Question 14

The risk discount rate should reflect ? [1]

Answer 14

• return required by company’s shareholders ✓✓
• level of statistical risk attaching to the cashflows under consideration (for the specific project) ✓✓

Question 15

The shareholders’ return is made up of? [2.5]

Answer 15

• The return they could obtain from a risk-free asset. ✓✓
• A risk premium to compensate them for investing in the insurance company. ✓✓
• A suitable proxy can be chosen to represent risk-free assets, such as ST deposits issued by a stable government ✓✓
• Risk premium may be quantified using CAPM. ✓✓
• It is not up to the actuary to decide an appropriate return, they will however make some reasonable assumptions based on the market. ✓✓

Question 16

Statistical risk attaching to the cashflows will depend on? [2.25]

Answer 16

• Level of statistical risk depends on the product.✓✓
• The factors affecting the riskiness of a product include:✓
• lack of historical data✓
• high guarantees✓
• policyholder options✓
• overhead costs✓
• complexity of design✓
• untested market✓

Question 17

What features in a product might lead to a lower discount rate? [2.75]

Answer 17

• Benefits based on contingencies about which there is a lot of reliable data. ✓✓ *(opposite is lack of historical data) *
• no (or not very onerous) guarantees ✓✓ (opposite is high guarantees)
• no PH options ✓ *(opposite is PH options) *
• low overhead costs since this reduce the risk posed by low business levels ✓✓ (opposite is overhead cost)
• the ability to vary charges in the case of UL contracts. ✓✓
• Simple product design ✓(opposite is complexity of design)
• a well-known market ✓ (opposite is untested market)

Question 18

State the various methods which could be used to assess the statistical risk. [2]

Answer 18

• In some situations analytically, by considering the mean & variance of parameter values.✓✓
• by using sensitivity analysis, with deterministically assessed variations in the parameter values.✓✓
• using stochastic modelling for some, or all, or the parameter values and simulation.✓✓
• by comparison with any available market data.✓✓

Tip: PARAMETER VALUES appear in each of the first 3 sentences.

Question 19

Describe the use of a market consistent valuation as an alternative approach to set the discount rate. [2.75]

Answer 19

• These are carried out using risk-free interest rates for discount rates.✓✓
• Swap rates or GBY curves are often used to set risk-free term dependent interest rates.✓✓
• Margins are then included in parameter values, e.g. morbidity and expenses✓✓, to allow for inherent risks in their estimation.✓
• It is also useful as a reasonability check on traditional approaches and ensuring that risk margins are appropriate.✓✓
• It is an alternative to using CAPM to determine the risk-discount rate.✓✓