Chapter 5 Asset shares Flashcards
Define asset share (4)
- Asset share is accumulation of premiums…
- …less deductions associated with the contract…
- …(plus, for with-profits policies, allocation of profits on without-profits business and surrender profits on with-profits business if applible & appropriate)…
- …all accumulated at the actual rate of return earned on investments
The asset share of a policy is the accumulation of
premiums
investment income
miscellaneous profits
less
expenses and any commissions
cost of all benefits in excess of asset share
tax
profit transfers to shareholders
cost of capital required to support new business strain
any contribution to the free assets required to support smoothing of bonuses and
increase investment freedom.
Explain in words how an asset share may be calculated using a recursive formula (5)
- Asset share can be calculated recursively on year-to-year basis
- Initially, earned asset share is zero
- Each year cashflows, including premiums received and deductions made, e.g. to cover cost of benefits, are recorded
- Suitable rate of return on investments is used to accumulate asset share plus premiums less deductions (plus, for with-profits policies, allocation of any miscallaneous profits) to the year end to determine asset share
- Process is repeated for subsequent years
What typical developments do we expect for the progression of the asset share?
(consider early phases, then at muturity)
- In early phases, we usually expect a negative asset share
This essentially means/is because policy has incurred expenses in excess of premiums/income
Risks arise with a negative asset share
Lapse risk, leading to company making losses and not recovering initial costs
Subsequent movement of the AS will depend on
Renewal expenses
Investment income
Cost of life cover - At maturity
Expect asset share > guaranteed sum insured
With excess profits
being distributed to shareholders or
with profit policyholders
retained
for smoothing purposes
grow the business
to bolster solvency position
use for future opportunities
State core uses of asset share (+-7)
- Setting surrender values
Asset share will, over period of time, and allowing for smoothing, be upper limit on policy’s surrender value
Company try ensure surrender val < ass share - Setting with-profits bonus rates
Compare assets to liabilities- indication of surplus available
Deciding size of terminal bonus- sustainability of reversionary bonuses
Other uses: - Monitor fairness across tranches of business/policies
Asset share relative to benefit (where discretion available) - Market value adjustment
Asset share compared to smoothed benefit (under unitised business) gives indication of market value adjustment which may be needed - Policy alterations
- Profit distrubution to shareholders
- Planning
Project solvency position
Monitor expected profitability on book of business + impact of actual experience <> expected
Surrender of policyholders
The impact on the asset shares for remaining policyholders depends entirely on how the surrendering policyholders were treated. If they were paid surrender values equal to asset share less the administration costs of the surrender then the asset shares of the remaining policyholders will be unaffected. If, on the other hand, they were paid surrender values lower than that, the company will have made some profit from their surrender and this should be reflected in higher asset shares for the remaining with-profits policyholders.
Impact to Asset Share -Market value of assets down 10%
The immediate answer would be ‘asset shares down by 10%’. However, if the fall in market values also reduces the tax liability on total unrealised capital gains, then asset shares will fall by less than 10%.
Impact to Asset Share - Shareholders rate of return increase
This will increase the cost of the shareholders’ capital. As a result, the shareholders’ share of the distributed profit may be increased, increasing the amount of shareholders’ transfer each year (although the extent to which this can be done may be heavily restricted by regulation). This will reduce asset shares.
Impact to Asset Share - Reserves increased
At an immediate level, there will be no change because asset shares are affected only by cashflows, and the level of the reserves is therefore irrelevant.
A strengthening of the reserving basis will mean that the capital required to sell a policy will now be higher. Larger deductions should therefore be made from asset shares at early policy durations, to pay for the increased cost of capital, for all policies that require more capital than before. This will reduce the future asset shares for such policies.
An increase in reserves will reduce the insurer’s investment freedom. This will reduce the future investment return potential, which will in turn result in lower asset shares
ultimately.
Impact to Asset Share - Policyholder dies
If the group asset share is being calculated by totalling actual cashflows for the group, then the asset share will clearly go down a little. If the approach taken is that of determining the mortality rates experienced by the group, and then using those rates to calculate asset share, then asset share will go down if our estimate of mortality rates increases as a result of the death. In practice, one death would have no influence on our rates and so the asset share would not be affected.
Retrospective vs prospective
Retrospective Method:
Accumulation of past premiums , less expense and cost of cover.
Use formula, with paramters based on actual experience (mortality, interest, expenses) to date
Or may use (or be similar to) earned asset share
Deduct cost of surrender
Prospective Method:
EPV of future benefits and expenses, less premiums and cost of surrender
Use best estimate of future experience
