Chapter 10 (Embedded Value) Flashcards
What is the definiton of covered business
Any contract regarded by the regulator as long term business
What is the definition of required capital
assets attributed to the business over and above the amount required to back liabilities whose distribution to shareholders in practice is restricted
What is the definition of total restricted assets and how is required capital calculated from this?
Regulatory liabilities + Required Capital + Capital Buffer
Required capital is then equal to total restricted assets minus projected EVM liabilities.
How is shareholder/policyholder business dealt with in PVIF
- Calculate projected bonus rates according to PPFM
-Assumption is made about the split between reversionary and terminal bonuses
-Can the calculate the cost of the bonuses in each of the future years and hence the shareholder’s profit entitlement
How do we allow for the fact that the value of PVIF takes no account of possible shareholder capital injections
it represents the value of a call option that should be deducted from the market value of the business
it is usually allowed for as an increase to the rate of discount in PVIF
Criticism of traditional embedded value
1) Allowance for cost of financial options and guarantees
-it includes the intrinsic value of options and gurantees which is equal to zero when options are out of the money
-only allows for time value of options and guarantees through the discount rate
2) Allowance for cost of capital
-considers discounted value of future capital releases of MCR and investment returns and compares with face value of cap at valuation date
-no allowance for capital to differ from MCR
3) Risk discount rate
-set subjectively
-difficult to see which risks SH are exposed to are included in the rate
4) Lack of consistency in methodology, assumptions and disclosure
What is the Value of New Business definition
Calculated as the present value of after tax shareholder cashflows arising from new business less the corresponding CoRC
How is new business defined
Business arising from the sale of new business contracts and one-off premium increases in respect of in-force bsuiness during the reporting period
How can we determine the new business profit margin
VNB/PVFNBP
How is PVFNB determined
Look at VNB written over last 12 months. PVFNB can then be estimated by using a multiple of VNB.
Can also project the number of policies over the next 5 years and discount the cashflows to the current date.
-acquisition costs and CoRC should be taken into account
