Chapter 17: Asset-liability managment

Question 1

Steps for Asset-liability matching methods: (9)

Answer 1

1. Clarify the key objectives of the process or desired output from the ALM exercise.
2. Determine suitable assumptions for parameters and distribution functions (if relevant).
3. Collect and validate proper data to use in the modelling process and use it to create model points.
4. Run the model and storing outputs generated by the model.
5. Consider the overall nature of the liabilities
6. Analyse how the results may be influenced if different investment strategies are used by varying deterministic asset allocation assumptions.
7. Assess the interaction between risks (increasing mismatching) and reward (higher investment returns) by finding the point where risk is minimised and return is maximised.
8. Do sensitivity and scenario testing.
9. Summarise and present the results to help make decisions relating to, for example, investment strategies.

Question 2

ALM Step 1: Clarify the key objectives of the process or desired output from the ALM exercise.

Examples: (4)

Answer 2

1. Future ongoing funding levels.
2. Future solvency levels, for example, Solvency Capital Requirements (SCR) cover
3. Investment guarantee reserves (IGR)
4. Economic capital

Question 3

ALM Step 2: Determine suitable assumptions for parameters and distribution functions (if relevant).

This is the model specification stage. It includes, among other things:

Answer 3

1. Establishing a cash flow model to value assets and liabilities
2. Deciding which parameters to model stochastically (for example, economic assumptions) and which to model deterministically.
3. Deciding on any dynamic links (for example, bonuses linked to investment returns)
4. Deciding whether to include new business or not.
5. Choosing a projection time frame (for example, 30 years for IGRs and 10 years for SCR) and intervals (monthly or annually).
6. Setting clear and measurable criteria for assessing outcomes, for example free surplus covers required capital 99.5% of the time over the period of analysis, i.e. the company will remain solvent within a 99.5% confidence interval for the next year.