Chapter 0: Actuarial Control Cycle

Question 1

General commercial and economic environment

Answer 1

ESPERIA, a magical environment far away

• External environment
• Stakeholders
• Providers of benefits (competition)
• Economic Influences
• Regulation
• Insurance products
• Asset Classes

External Environment (Markets/Trends)

• Any trends in this market sector such as demand
  
  • eg The markets may be comfortable with a conservative approach…
  • The appetite for certain products in the local market…
• Emerging technology and developments that can have a bearing on the security of systems.
• the risk profile of new business
• the nature of the claim risks, new business vs the business currently sold − the size of the claims

Stakeholders

• Understanding how to reach a company’s current and potential future policyholders.
  – There may also be a general expectation from rating agencies (or clients/brokers) to have reinsurance in place (re question)
  – MaxiSure also needs to consider the impact that any changes to their reinsurance programme might have on their ability to obtain cover in future (re question)
• Have shareholders and their profit expectations need to be taken into account when setting up the terms

Providers of Benefits (Competition)

• It might be possible to try and learn from the approaches other companies might have taken eg. with regard to changes to their new business processes/pricing
• Investigate the benefits offered by other similar/industry funds
• When deciding on rates initially, compare proposed rates to those available from other companies
• Pay attention to changes in rates from competitors …
  … reductions in rates may force a review of the premium rates
  …to remain competitive
  … may even force insurer out of the market if it cannot make a profit
• There is also the risk of increased lapses if another product provider provides a product attractive enough to cause policyholders to cancel their policy

Economic Influences

• the current stage in the underwriting cycle
  
  • that affect the availability and cost …
  • …some of which may be driven by international factors.
    
    • … when interest rates are low, annuities may be perceived as poor value
• the economic outlook
• Consider the current economic environment…

Regulation

• There may be limits on which assets may be invested in.
• Being aware of any regulatory requirements around the sale of new products.
• Taxation
• How this product may change the company’s capital requirements
• The local regulator will also have requirements as to the basis on which this block must be valued for the purposes of demonstrating solvency.

Insurance Products

Asset Classes

• The characteristics of the asset markets in which the fund operates
• The expected returns and correlations of asset classes
• Relative to those in the local country
• Assets available for insurer to invest in

Question 2

Specifying the problem

Answer 2

• analyse the risks of the various stakeholders
• set out the problem from the point of view of each stakeholder
• consider strategic courses of action that could be used to handle the particular risks in question
• assess the risks faced and how they can be managed, mitigated or transferred
• analysis of the options for design of plans that could be considered

Examples:

− The company’s primary goal is to set premium rates to achieve a certain profit criterion …
− … and/or market share
− The risks to the company of selling this product need to be identified and analysed and mitigated.
− Key risks of the new venture include:
o lack of data (as existing data on employed lives morbidity is likely to be of limited use)
o … making it difficult to ascertain likely claims experience
o not selling enough business, particularly as this is a niche market
o that the competition react to a new entrant and alter their strategy.

− This additional provision is necessary to make sure that LifeCo can meet all policyholder obligations…
− …as well as represent an accurate view of the company’s financial condition.
− This provision would represent the expected net present value…
− … of the additional future liabilities arising as a result death claims as a result of Covid-19…
− …that were not anticipated as part of the current pricing basis.
− This would require an understanding of the impact of Covid-19 on the current mortality bases employed in the business.
− The nature of this impact likely to be complex and significantly different by factors such as…
− …age and duration,…
− …socio-economic status, and…
− …vaccination status. − Consideration may need to be given to what allowance should be made for new business in the near future…
− …given that pricing/underwriting changes would take some time to implement.
− Longer term changes to new business underwriting requirements might also be required…
− …which have an impact on the mortality basis used for new business…
− …as well as the marketability of LifeCo’s products. − This may include different rates for vaccinated vs. unvaccinated clients.

− Trustees should consider the risk appetites of their underlying members
− And analyse the underlying liability in terms of time horizon and income levels of members
− In order to arrive at a clearly defined set of objectives for each of the portfolios
− They should also consider the size of the fund as this may impact the selected investment strategy
− And consider any risks associated with the selected strategy

• The client is paying a premium in return for transferring the risk of losses as a result a security breach of its IT systems to CorpSure.
• The problem is to determine a product design…
• …and premium rates that: o deliver a required profit (or return on capital) to CorpSure,
  o doesn’t expose Corp to risk beyond their risk appetite, and
  o are marketable/attractive and meet the needs of brokers and/or prospective clients in the market place.
• The product design would also need to be administered successfully
• The client will be transferring risk to the insurance company…
  … longevity risk - as the annuity will be paid for the remaining lifespan of the annuitant
  … investment risk – as the client will receive a guaranteed income, irrespective of market conditions
  … investment risk includes credit and market risk
• Problem is …
  … determine premium rates that
  … deliver acceptable profit…
  … considering the risk accepted
  … are competitive in the market
  … bearing in mind that the company is new to the market and has no experience
• Specify the problem by having a clear objective for the long term asset liability portfolio.
• The investor must be aware of what their investment objective is e.g. to match liabilities or to simply outperform a target.
• And also a clear identification of the risks that they are faced with.
• This leads on to consideration of the assets available, including internationally and in relation to solvency/risk tolerances and whether any deviations are permitted.

– At present it appears that the company is bearing the investment and longevity risk associated with the benefit.
– It is clear that the company requires an actuarial calculation to determine the size of the liability for accounting purposes.
– There is however also a requirement to manage the risk associated with this liability, which includes…
– …variability around the amount of the liability…
– …which can affect the company’s solvency…
– …as well as the risk of members’ needs not being met by the panel of insurers.
– There is also the need to specify what the applicable basis will be for those who elect to take a once-off lump sum.
– The company may also require input on what levers they have available to reduce this liability.

– MaxiSure would want to purchase reinsurance in the most cost effective way possible…
– …because reinsurance generally cedes away profits to the reinsurer
– MaxiSure would want to consider some of the reasons for purchasing reinsurance in the first place
o Reducing claims volatility / smoother profits
o Reduced capital requirements
o Increased capacity to write more/larger risks and diversify
o Limiting large losses either from single claims or accumulations thereof
o Reducing their risk of insolvency
o Accessing expertise of the reinsurer.
– At the same time MaxiSure can also be relying on advice from their reinsurance brokers
– They also need to keep in mind the existing relationships they have with the reinsurance market

The main problem to solve is that the investment portfolio should be adjusted to introduce exposure to the emerging markets in such a way that it
* Continues to match the liabilities of the company ;
* Potentially increase the overall expected return ;
* Yet remain within the risk limits required by the portfolio.
The main stakeholders that are affected are the shareholders, and potentially policyholders if with-profits or unit-linked business is present. The risk appetite of shareholders will therefore needed to be taken into account, especially the additional risks that emerging markets will introduce, although the diversification benefits might negate this to some degree. On the other, policyholders’ reasonable expectations (created by marketing literature, mandates, etc.) should also be considered in this context.
By introducing emerging markets into the portfolio (additional investment), one should also consider from which asset classes (or markets) should be disinvested in the bigger portfolio.

• RSA Re wants to take on the block of business in such a way that the run-off will provide a required profit over time.
• Given the nature of the product (level premium, whole life), we can assume that an upfront payment from ZenSure will be required…
• …to make up the shortfall between future premiums and claims on the book.
• A key part of the solution at the outset will be for RSA Life to have an informed view of what this amount should be.

Question 3

Monitoring the experience

Answer 3

• monitor the experience and feedback into the problem specification and solution development stages
• identify any causes of any departure from the targeted outcome from the model and whether such departures are likely to recur

− Once the company has started to write business it should carefully monitor actual vs expected experience for all of the assumptions mentioned above…
− … and investigate the cause of any departure from expected experience.
− The monitoring of experience should be carried out more frequently in the early lifetime of the new product
− Any issues need to be spotted early and acted upon
− The results of the monitoring should be fed back into the earlier stages of the cycle,
− …for example, the solution may need to be redeveloped, in terms of waiting periods or exclusions
− assumptions might need to be changed
− premium rates may need to be revised if they are inadequate
− The insurer should also monitor competitors’ reactions as this may influence the assumptions.

LifeCo should endeavour to try and flag/identify Covid-19 related deaths as accurately as possible.
− Emerging mortality experience should be compared to what was expected…
− …on the basis of a no-Covid scenario.
− This would assist in understanding the excess deaths being experienced.
− This monitoring will feed back into the assumptions being made for new business…
− …as well as the provisions that were raised.
− New business volumes should be monitored carefully.
− While an increase in new business might be expected given the increased awareness of dying…
− …significant increases might be indicative of anti-selection.
− If new business is significantly down, …
− …this may indicate that the basis is too prudent…
− …or the underwriting approach is being poorly received.

− The performance of the portfolios should be evaluated on an ongoing basis
− To assess managers’ performance against benchmarks
− As well as portfolio performance against stated objectives
− It will be important to assess performance over appropriate time periods −
Assessment of the take-up rates of the various portfolios in terms of member behaviour would also be very useful
− Should the outcome of the monitoring process suggest a change is needed to the investment strategy for one or more portfolios, this would be reviewed by starting the ACC process again

It may take quite some time for credible volumes of exposure/claims data to build up, especially if there are very few policies sold and/or claims made.
- Emerging experience should be compared with what was expected when the pricing was initially done.
- If experience is significantly different to what was expected, the premium rates for new business might need to be adjusted…
- …and existing business would likely be revised on the policy anniversary.
- Experience might also be different to expected due to issues around poor/inadequate underwriting,…
- …either at inception or during the claims processing stage.
- It will also be important to understand whether the needs of the clients are met…
- …perhaps by regularly engaging with brokers,…
- …and constantly looking at the circumstances surrounding and outcomes of claims.
- It is possible that competitors enter this market as well and their actions and product designs should be noted.
- CorpSure would need to monitor the competitors’ product design and pricing.
- In some cases changes may be required to enable them to remain competitive,…
- …for example reducing any margins for prudency or lowering the profitability requirements.
- Any emerging trends in frequency and/or severity of certain risk events

• After launch, monitor experience regularly…
  … to see how actual experience compares to that assumed in the pricing basis …
  … and the reserving basis
• May take time to get accurate picture of accuracy of assumptions …
  … as improvements in mortality over time emerge gradually …
  … and ultimate longevity is unknown at the outset I
• f it appears that the mortality assumptions are different from actual experience …
  … re-run the profit test with the new assumptions, which means…
  … premium rates may need to be re-calculated
  … reserving basis may need to be changed as well

Once built, test the model and feed back the results into the cycle with regular monitoring against the objective. The initial stage of this may involve back-testing the model against historical investment experience. There would also need to be regular on-going testing to react to changes in market conditions and expectations. Monitor and feed results back on an ongoing basis so that stakeholders are continually informed and can make decisions. Are the assets still a match for the liabilities, that the indices are still appropriate and that the portfolio is still within risk tolerances so that the portfolio remains optimal.

– Assumptions for the valuation model needs to reflect up to date expectations of the future experience.
– An analysis of surplus may be useful in this regard.
– The impact of the overall liability on the company’s solvency needs to be monitored every year…
– …which may increase/decrease demands for changes to the scheme design.
– Feedback from members on the service levels and suitability of benefit design from the various insurance providers…
– …as well as any emerging news, benefit changes, financial experience of the funds…
– …can feedback into the choice of insurers on the panel every year.

• Monitoring of experience is fundamental to effective implementation of the ACC or the risk management control cycle.
• The environment in which a provider operates is constantly changing and monitoring the effect of past actions and related performance can help in revising its strategy for risk management and in r eassessing the risks that it faces.
• The actuary will use the results of analysing the experience and the differences of actual vs expected performance to reassess his or her view of the future with regard to the ACC process or the provider.
• This may result in changes to the assumptions or models used for setting the investment strategy, or for the decision around implementing the investment strategy.
• In essence, this is an iterative process. The actuary is trying to estimate how the investments will progress in the future (possibly relative to liabilities), based on what has happened in the past as well as his/her view of the future.
• As time goes by, the actuary will have more information. The assumptions and models resulting from this should get closer to mimicking reality, or can continuously be updated as new information that will affect the future becomes available.

– Each year (at every renewal) MaxiSure would need to consider how well the reinsurance structure performed…
– …taking into account the major reasons for purchasing reinsurance discussed above.
– They would also compare the actual underwriting results with that predicted by their models…
– …and improve these models to make sure that the effect of reinsurance is modelled in the best way possible
– They would also revisit whether their capital position and/or risk appetite has changed over the last year…
– …which would inform whether they cede more/less in the next year.
– They would also consider the level of technical/actuarial/product/underwriting support they received from the reinsurer(s)…
– …and whether they can get the same support for cheaper elsewhere.
– They would also need to monitor the relevant credit risk associated with the reinsurer(s)…
– …and take appropriate action if anything changes in this regard e.g. if a counterparty gets downgraded

Once the proposed solution has been implemented, it will become necessary to continuously monitor the experience - actual returns and corresponding volatility/risk - of the portfolio and compare this to the expected experience. If experience differs materially from the expected and the impact on the success criteria, then this should be fed back to the problem specification and solution development to ascertain whether updated exposure limits should be considered.

• Over time the actual mortality would need to be compared to the expected mortality when the deal was set up.
• If the surplus arising is consistently positive, then we can consider adjusting the basis on which this business is provisioned for…
• ….and release some capital.
• However, if it becomes clear that the business is running worse than expected…
• …we may need to raise additional provisions, possibly by strengthening the basis of the models used when developing a solution

Question 4

Professionalism