CH30 - Other risk controls

Question 1

Risk can be managed through diversification within the following (5)

Answer 1

1. lines of business
2. geographical areas of business
3. providers of reinsurance
4. investments - asset classes
5. investments - assets held within a class

Diversification can also be achieved by entering into reciprocal reinsurance arrangements.

Question 2

Ways that underwriting can be used to managed risk (6)

Answer 2

Underwriting generally refers to the assessment of potential risks so that each can be charged an appropriate premium.

It can be used to manage risk in the following ways:

1. It can protect a provider from anti-selection
2. It enables a provider to classify risks into homogeneous groups for which a standard premium can be charged, and thus helps to ensure that all risks are rated fairly.
3. It enables a provider to identify risks for which special terms need to be quoted
4. For substandard risks, the underwriting process identifies the most suitable approach and level for the special terms to be offered.
5. It helps ensuring that claim experience does not depart too far from that assumed in the pricing of the contracts being sold.
6. For larger proposals, it will help to reduce the risk from over-insurance.

Question 3

Life insurance initial underwriting is likely to involve the following (3)

Answer 3

1. medical underwriting - assessing the applicant’s health
2. lifestyle underwriting - assessing the impact of lifestyle (e.g. occupation, leisure, pursuits, country of residence) on the level of risk
3. financial underwriting - to reduce the risk of over-insurance

Question 4

Life insurance underwriting:
The evidence needs to be interpreted by specialist underwriters. Applicants whose state of health reaches the required standard can be offered the company’s standard terms for the particular contract.
Other applicants will be offered special terms, which might include: (4)

Answer 4

1. an addition to the premium
2. a reduction to the benefit
3. an exclusion clause
4. declining the applicant (either on a temporary or permanent basis)

Question 5

Claims control systems

Answer 5

Claims control systems mitigate the consequences of a financial risk that has occurred by guarding against fraudulent or excessive claims.
For some products (e.g. income protection) claims management continues during claim.

Question 6

Management control systems include (4)

Answer 6

1. data recording
2. accounting and auditing
3. monitoring of liabilities taken on
4. management of options and guarantees

Question 7

Techniques for managing options and guarantees include (2)

Answer 7

1. liability hedging and asset/liability matching, including the use of derivatives and dynamic hedging
2. restricting option eligibility conditions

Question 8

Low likelihood, high impact risks are among the most difficult to manage and can (3)

Answer 8

1. can only be diversified in a limited way
2. can be transferred to an insurer or reinsurer
3. can be mitigated by management control procedures, e.g. disaster recovery planning

In order to determine the capital necessary to hold for such risks and the extent to which mitigation is necessary, the company will consider its own risk tolerance, e.g. withstand a 0.5% probability risk event over a period of one year.

Question 9

Risk financing

Answer 9

The price accepted for a risk must be adequate, allowing the risk taker to continue in business and also to provide a contribution to profit.
It is then necessary to determine the amount of capital to hold against the risks accepted or retained, e.g. to target a ruin probability over a specified period.
Risk management should be co-ordinated in order to be capital efficient and to reduce the total cost of risk.