Chapter 27 - Cost Of Guarantees And Options

Question 1

Some factors affecting mortality options: (6)

Answer 1

1. Term of the policy with the option (longer the term, more likely that PHs health deteriorates and exercise option)
2. Number of time PH gets chance to exercise option
3. Conditions attaching to exercising the option, such as limiting the size of the option, or restricting choice of contracts available under the option
4. Encouragemnet given to PH to exercise the option
5. Extra cost to PH who exercises the option (big increaese in prm may prohibit healthy lives from taking up the option)
6. Selective withdrawals (healthy live cancel term assurance with option, where sick live use option)

Question 2

Extra assumptions needed when valuing a mortality option: (5)

Answer 2

1. Probability that option will be exercised, at each possible exercise date
2. Additional benefit level that will be chosen, if this is at the discretion of the PH
3. Expected mortality of the lives who choose to exercise the option
4. Expected mortality of live who choose not to exercise the option
5. Additional expenses related to the option

Question 3

Define the cost of a mortality option:

Answer 3

It’s the value of the excess of premium that should, in the light of full underwriting information, have been charged for the additional assurance over the normal premium rates that is charged.

If a life, who is in good health and who would be expected to satisfy normal UW requirement, exercise the option, then the option will generate little or no additional costs. The exercise of the option by lives in poor health will generale considerable additional costs.

The total additional costs of an option depend in the health status of those who choose to exercise the option i.e
(proportion of lives exercising option) x ( average health of lives exercising option)