Chapter 10 - Risk & Uncertainty

Question 1

Anti-selection

Answer 1

It occurs when a more profitable business is attracted away from an insurer by a competitor who has found a way of identifying the more profitable segment and offers more attractive terms

Question 2

Events not in data (ENIDs)

Answer 2

Not all possible future cashflows - or the events that cause them - may be represented in the data. These events are sometimes referred to as ‘binary’ or ‘extreme’ events, such terms suggest that these events not found in the data are necessarily extreme or rate, which is not the case.
>Care needs to be taken when estimating ENIDs as part of reserving, capital modelling or even pricing as may not be adequate
> Care needs to be taken when removing outliers from data as this will remove events from the data - unless the actuary can show that it would not be possible for these, or similar, events to occur again in future

Question 3

Model uncertainty

Answer 3

The risk that an inappropriate model has been used when modelling data for the purpose of reserving. The quantification of model uncertainty is difficult to assess. However, by using alternative models the risk can be minimised and the level of uncertainty can be assessed by comparing the outputs of the alternative models

Question 4

Parameter uncertainty

Answer 4

When a model is fitted based upon historic data, there is the possibility that parameters do not accurately reflect the underlying statistical process. A goodness of fit test using these parameters can quantify this element of uncertainty

Question 5

Process uncertainty

Answer 5

The risk inherent in writing business and settling claims in general insurance. The modelling of number and amount of claims will vary from the true value owing to random variation. Process uncertainty is represented by a probability density function

Question 6

Uncertainty vs. risk

Answer 6

Uncertainty: The inability to predict the future with confidence

Risk: The possibility of adverse variations in financial results and the possibility of outcomes being worse than expected. The greater the uncertainty the greater the risk

Question 7

Reserving risk

Answer 7

The risk that claims arising from expired business turn out to be greater than the reserves held for these accounts

Question 8

Period of unexpired risk

Answer 8

For policies that are currently in force. It is the period for which premium has been received but for which there is still exposure until the insurer’s obligations cease