Chapter 12.1 Assumptions (0) Overview and General considerations

Question 1

Background on assumptions

What is the key reason assumptions are used for? (1)

What key risk does setting assumptions introduce? (1)

What kind of risks can be somewhat mitigated by appropriate matching of assets? (3)

Answer 1

• Assumptions used by insurers for variety of reasons, mostly assessng eventual cost of liabilities
• Setting assumptions may => parameter risk: want to reduce this
• Not easy finding matched assets protecting from actual experience differing from expected, can sometimes reduce following risks from investment matching:

1. Investment risk: relates return required meet current liabs for future payouts
2. Inflation risk: relates increase in inflation-linked liabs + liabs behaving approximately in line with inflation (eg expenses)
3. Marketing risk: ability to satisfy PHs in relation to any investment-linked/discretionary benefits.

Question 2

List the general considerations to decide on when setting assumptions (8)

Answer 2

When setting assumptions it is important to:

1. consider the use to which the assumption will be put eg pricing, reserving, profitability testing
2. take care over assumptions with highest financial significance
3. achieve consistency between the various assumptions
4. consider any legislative or regulatory constraints
5. consider needs of clients
6. ensure the parameters estimated as accurately as possible given data
7. ensure data used to derive assumptions are relevant to policy risks/insured group of lives
8. ensure that bases used for valuation and reserves are flexible enough to reflect changing risk circumstances

Question 3

What main groups do assumptions fall into? (3)

Give some of the various assumptions under each group (16)

Answer 3

• Demographic assumptions
  
  • PMI incidence rates
  • CI Incidence rates
  • LTCI transfer probabilities
  • Other claim inception rates
  • Persistency rates
• Economic assumptions
  
  • Benefit amounts
  • Benefit inflation
  • Expenses
  • Expense inflation
  • Commission
  • Commission clawback
  • Investment return
  • Tax
  • Volumes of business
  • Mix of business assumptions
• Other
  
  • Cost of capital assumptions
  • Profit requirement
    
    • Risk discount rate
    • Profit criteria
  • Margins/allowance for risk of future adverse experience
  • Unit charges
  • Consistency between assumptions