Ch 35: Monitoring experience

Question 1

In what different ways can experience monitoring be done?

(1,5)

(2,3)

Answer 1

1. Directly
   
   • want to directly analyse experience with respect to a specific item of interest, so do an analysis for this
   • in this chapter we cover following direct investigations
     
     • investigation for mortality + other contingencies
     • persistency investigation
     • expense investigation
     • investment return investigation
2. Analysis of surplus
   
   1. investigate financial impact of any difference between actual and expected by performing analysis of surplus
   2. tells us
      
      1. which component is responsible for surplus arisen
      2. where remedial action can be taken

Question 2

List reasons for monitoring experience as part of the control cycle

(6)

Answer 2

1. Update assumptions as to future experience
2. Provide management information to aid business decisions.
3. Monitor trends in experience
4. Monitor actual compared to expected experience and take corrective actions as needed
5. Make more informed decisions about pricing and adequacy of reserves
6. Develop earned asset share

Question 3

List 4 reasons a life company may need assumptions regarding future experience

Answer 3

1. Model office work
   
   • EV work
   • profitability monitoring
   • financial projections
   • asset-liability modelling for setting investment strategy
   • determining reinsurance requirements
2. Pricing
3. Valuations
4. Setting discontinuance terms

Question 4

List ways in which experience analysis may help provide management information and take corrective actions (5)

Answer 4

By helping managment to identify

• profitable
  
  • products
  • sales channels
  • markets
• effecient sections of business
• successful investment strategies

Question 5

What are the general steps involved in an experience analysis? (broadly speaking) (4)

Answer 5

• Decide what type of investigation needs to be done
  
  • direct
  • analysis of surplus
• Gather required data
• Conduct analysis
• Use results

Question 6

Discuss the data required for monitoring experience

Basic requirements of good data (3)

Splitting data (2)

Period (2)

Level of detail (2)

Answer 6

• Basic requirement is for data to be
  
  • of sufficient volume
  • consistent
  • adequate to deduce trends and future experience
• Data should be split into homogenous groups
  
  • according to relevant risk factors
  • balance between homegeneity and credibility
• Period over which data is collected is very important
  
  • sufficiently long time period for enough data volume
  • …but too long time period, might not give info about recent experience
• Level of detail depends on
  
  • volume of data available
  • ideally want split at least for different contract classes

Question 7

What do we mean by ‘big data’ and how have technical developments changed the insurance landscape in this regard?(2)

Give an example of big data (1)

Answer 7

Big data

• big data essentiallly refers to large volumes of data
• technical developments => insurers can handle/analyse large volumes of data more easily

Big data example

• banks with insurance subsidiaries selling insurance mostly to own customers (‘bancassurers’) amass large volumes of additional data on the insurance customers eg personal spending habits and travel locations

Question 8

List some advantages of big data (6)

Answer 8

Big data advantages

• allow better understanding + analysis of risks…
• …hence better predict future behaviour
• develop more sophisticated + detailed risk classification…
• …allowing for greater ability to select preferred risks
• drive better experience through monitoring
  
  • earlier identify changes in individual risks
  • being able to intervene/influence PH behaviour
• other data sources

Question 9

List some disadvantages of big data (5)

Answer 9

Big data disadvantages

• reputational damage
  
  • privacy concerns
  • data protection failures
• regulation changes
  
  • regulator preventing certain data being used
  • fines for misuse of data
• data issues
  
  • collected data may be inaccurate, incomplete, or irrelevant
• modelling risk: complex models=> choice of wrong model
• expenses: collecting/analysing data vs benefits

Question 10

List the types of experience investigations an actuary might conduct (4)

Answer 10

1. Mortality and other contingencies
2. Persistency
3. Expenses
4. Investment return

Question 11

Mortality experience

List the classifications by which data (both claims and exposed to risk) would be ideally sub-divided for the purpose of analysing the mortality experience

(8)

(2)

Answer 11

Most useful classifications would be

1. type of contract
2. age
3. sex
4. duration from entry
5. smoker/non-smoker status
6. medical/non-medical status
7. source of business
8. location

Further classifications useful if sufficient data

1. eg location broken down to postal code
2. occupation (at least broad occupational group)

Question 12

List classifications by which data (both claims and exposed to risk) would be sub-divided for the purpose of analysing the persistency experience (10)

Which splits are used in practice?

Answer 12

Subdivision and analysis of persistency experience data would usually be by:

1. type of contract
   
   • endowmnts usually > persistency than term assure
2. duration in force
   
   • usually lower at start of contract
3. sales method
   
   • more suitable product sold => better persistency
4. target market
   
   • more suitable product sold => better persistency
5. frequency of premium
   
   • monthly prem=> more chance stop paying than annual prem
6. size of premium
   
   • big annual prem may be less affordable than smaller monthly prem
7. premium payment method
   
   • debit order persistency > cash payment persistency
8. original term of contract
9. gender
10. age
    
    • usually worse experience for younger ages

The only first 3 are used as they are particularly important

Question 13

Give 3 other factors, external to life company, that may also influence persistency rates (3)

What impact would they have on the persistency analysis?

Answer 13

External factors influencing persistency

• Economic situation
• Competitive situation of product
• Perceived value of product to customer

Impact on analysis

• these factors wouldn’t be used explicitly in analysis
• but may be used to understand/explain patterns in experience

Question 14

Outline how full withdrawal rates can be determined for each homogenous group of lives analysed (7)

Answer 14

• for each homogenous group
• divide contracts issued in company’s last financial year
  
  • into corresponding number that survive in-force until first policy anniversary
  • to give first-year persistency rate
• first year withdrawal rate = 1- first year persistency rate
• exclude deaths and maturities from calc (if material)
• repeat for subsequent years to obtain second-year, third year, etc withdrawal rates
  
  • by looking at number surviving from number of contracts, in each group, that have their first, second, etc policy anniversary in last financial year

Question 15

What 2 different ways may be used to determined persistency rates? (2)

What adjustments may need to be made to data? (2)

What other analysis may we consider regarding persistency?

Answer 15

Persistency rates may either be determined

• over a period: number surviving period, compared to start of period
• cumulatively: number surviving to end of period, compared to number at contract inception

Adjustments may lead to regrouping of data

• if differences for rates due to small risk cell sizes
• depending on what management wants to see

Other persistency analysis we may consider

• analysis of paid-up pols may be done as subsidiary part of overall investigation
• may analyse income/partial withdrawal rates, depending on product design

Question 16

What are expenses ultimately a function of? (1)

Why might we do an expense investigation? (3)

Answer 16

Expenses are ultimatley a function of

• the work the company does ie administering portfolio of life policies

Expense investigations are done to

• better understand company’s expenses
• project future expected expenses using relationship between company’s business (pols sold/maintained in force) vs expenses incurred
• reconcile results with total expenses in published accounts

Question 17

What considerations should we consider when deciding how to group expenses? (3)

Answer 17

Consider desired end results through purpose of investigation

• contribution method
  
  • analyse expenses into policy groups so can apportion dividend per group
• asset shares
  
  • terminal bonuses/terminal dividends, or surrender values…
  • …historical expenses to be apportioned between different policy types
• pricing/reserving
  
  • essential for policy’s fair share of insurer costs are established, so correct premiums/charges can be levied

Question 18

What is meant by a direct expense and an overhead expense? (2)

Why might we exclude commission expenses from the expense anlaysis groupings? (2)

List 4 catergories into which non-commission expenses are split for the purpose of an expense analysis (4)

Within the above 4 splits, give 3 further subsplits (3)

Give 2 examples of expenses that are not proportional to number of contracts written or in force (2)

Answer 18

Direct vs overheads

• direct expenses are usually variable and can be directly attributed to a product or policy
• overheads are the balance of expenses, relating to general management and service departments which are not directly involved in new business or maintenance activities

May exlude commission from expense analysis groupings

• on basis that its format is known and can be added in later by a formula approach

For expense analysis we consider following 4 non-commisison expenses splits

• initial expenses (new business expenses),
  
  • non-proportional
  • proportional to
    
    • number of contracts written
    • amount of premium written
    • amount of benefit written
• renewal (maintenance) expenses,
  
  • non-proportional
  • proportional to
    
    • number of contracts in-force
    • amount of premium in-force
    • amount of benefit in-force
• termination expenses,
  
  • non-proportional
  • proportional to
    
    • number of contracts in-force
    • amount of premium in-force
    • amount of benefit in-force
• investment expenses

2 examples of expenses that are not proportional to number of contracts written or in force

• marketing expenses: may relate to amt intial comm paid
• underwriting expenses: mainly relate to benefit size

Question 19

Describe the division of expenses into cells

(4 main points, 6 subpoints)

Answer 19

• cells can be seperated by
  
  • accounting fund
  • each main product line of company
• these may be further sub-divided between
  
  • regular premium business
  • single premium business
• choice of cells will vary across companies depending on
  
  • types and volumes of business written
  • requirements of analysis
• cells chosen should not be so small that analyssi becomes unreliable

Question 20

List main items of expenses for a life insurer (6)

Answer 20

1. commission (where payable)
2. salaries and salary-related expenses
3. property costs
4. computer costs
5. investment costs
6. once-off capital costs (other than purchase of a new computer)

Question 21

Explain how to deal with commission expenses (1)

Answer 21

May exlude commission from expense analysis groupings on basis that its format is known and can be added in later by a formula approach

Question 22

Explain how to deal with salaries and salary-related expenses in the expense analysis (6)

Answer 22

• split into 3 groups
  
  1. staff whose work falls entirely within single analysis cell
  2. staff whose work falls within multiple analysis cells
  3. other staff eg catering staff
• treat as follows
  
  • Group 1 staff salaries allocated directly to appropriate cell
  • Group 2 staff salaries allocated across cells using timesheets as sharing mechanism
  • Group 3 staff salaries split pragmatically between overheards and direct expenses (which can be further split in proportion to overall split of Group 1 and Group 2)

Question 23

Explain how to treat property costs in the expense analysis (3)

Answer 23

• if insurer owns any buildings it occupies (within long-term fund), notional rent is charged to relevant departments
• if company rents any buildings it occupies, actual rent is used
• this rent, plus property taxes, heating costs, etc can be:
  
  • split between departments, eg by floor space occupied, then
  • allocated in accordance with salaries in each department

Question 24

Explain how to treat computer costs (2) and investment costs (3) in the expense analysis

Answer 24

Computer costs

• costs of purchasing new computer could be amortised over its useful lifetime and then added to ongoing computer costs
• these can then be allocated according to computer usage

Investment costs

• normally expressed as percentage of funds under management
• directly allocated to investment expenses
• hence allowed for in assessing investment return to use for pricing etc

Question 25

Explain how to treat once-off capital expenses (other than purchase of a new computer) (4)

Answer 25

• need to be amortised over expectd useful lifetime of item purchased
• amortised cost may then simply be treated as part of overheads
• if item can be treated as asset of lon-term fund (eg new head office building), ocst not amortised
  
  • instead, charge (eg notional rent) usually made
• exceptional items, not likely to recur, excluded completely from analysis

Question 26

Give an overall summary of the expense analysis (11)

Answer 26

1. start with knowing the expenses, such as salary, computer costs etc
2. we know commission, so this can be excluded from analysis
3. then subdivide non-comm costs into required ‘cells’ ie
   
   1. initial, renewal, termination, investment, and
   2. whether related to per policy, premium, sum assured
4. some expenses can be allocated directly to a particular cell
5. staff expenses may need to be subdivided between cells by use of timesheets
6. overhead expenses need to be allocated pragmatically eg in proportion to split in direct expenses
7. property expenses can be allowed for by
   
   1. charging notional rent in proportion to floor space
   2. then allocated to different cells in proportion to department’s salary cost
8. costs of new computer equipment spread over their future expected lifetimes then allocated to departments in proportion to usage
9. investmnt costs would be subdivided by asses class and usually allowed for by reduction in yield for each class
10. once of capital costs would be spread over the expected future lifetime of the item, then just treated as overhead
11. excpetional expenses may be ignored in analysis, but their future incidence may be allowed for in margins in future expense assumptions or risk discount rate

Question 27

Investment experience investigation (3)

Answer 27

• insurer will want to assess return its achieving on its investments
• methods used will depend on purpose eg
  
  • comparing investment performance of different unit funds, use market values
  • to determine surplus to distirbute on revalorisation, probably use written up book values
• experience is likely to be analysed by main asset types and may be done both gross and net of investment expenses

Question 28

List reasons why an insurer would undertake an analysis of surplus arising over a given period (6)

Answer 28

1. show financial effect of divergeance between valuation assumptions and actual experience, indicating which assumptions are more financially significant
2. to show financial impact of writing new business
3. to provide check on valuation data and process, if carried out independantly
4. identify non-recurring components of surplus , thus enabling appropriate decisions to be made about distribution of surplus to with profits PHs/shareholders
5. obtain management information on trends in company’s experience
6. comply with regulatory requirements

Question 29

List the main contributors to surplus (or loss) that you might expect to see in an analysis of surplus

Answer 29

• difference between actual experience and valuation assumptions for
  
  • mortality (and other contigencies)
  • expenses
  • withdrawal rates
  • investment returns
• and impact of new business
• changes in valuation assumptions would also contribute to surplus (or loss)

Question 30

Give reasons why an insurer may analyse the change over a year in its EV (5)

Answer 30

1. validating EV calculations
2. reconciling EVs for successive years
3. providing management information
4. providing data for use in executive remuneration schemes
5. providing detailed information for publication in accounts, in particular value of new business taken on by company

Question 31

List items of management information yielded by an analysis of changes in the EV (6)

Answer 31

1. value of new business written, normally by product
2. amount of any expense profit or loss
3. amount of any mortality profit or loss
4. amount of any withdrawal profit or loss
5. impact on free assets on EV growth (ie whether spared capital being used effeciently)
6. impact of supervisory minimum solvency capital requirements on rate of return achieved

Question 32

List uses of the results of a monitoring exercise (18)

Answer 32

1. update pricing basis
2. revise product design
3. change product mix/launching new products
4. revise underwriting process
5. revise reinsurance arrangements
6. implement/improve retention activity
7. change market message, target market/distribution channel
8. revise sales procedures
9. improve policy contract wording
10. improve adequacy of staffing resources
11. improve systems/data recording processes
12. improve actuarial models
13. change investment strategy
14. change with profits surplus distribution approach
15. update reserving basis
16. raise additional capital
17. alter capital allocation methodology
18. improve risk management controls/governance

Question 33

Can you try and ‘fit’ the various uses of results from experience monitoring into the context of the classic product cycle?

The standard product cycle includes the following aspects

Think of the product cycle covered earlier in the course

1. prod design
2. pricing
3. prod admin
4. marketing & sales
5. underwriting
6. claims management
7. experience monitoring
8. valuation

Answer 33

1. Capital uses
   
   • alter capital allocation methodology
   • raise additional capital
2. Prod design
   
   • revise product design
   • launching new products
3. Pricing
   
   • update pricing basis
4. Product administration
   
   • improve systems/data recording processes
   • improve adequacy of staffing resources
5. Marketing & sales
   
   • improve policy contract wording
   • revise sales procedures
   • change market message, target market/sales channel
   • implement/improve retention activity
   • change product mix
6. Underwriting
   
   • revise underwriting process
7. Claims management
   
   • revise reinsurance arrangements
8. Experience monitoring
9. Valuation
   
   • improve actuarial models
   • update reserving basis
10. Other items that fall more into ‘risk control’
    
    • improve risk management controls/governance
    • change investment strategy
    • change with profits surplus distribution approach