Important stuff I guess Flashcards
Roles of traditional banks
Act as financial intermediaries
o Between savers (providers of capital) and borrowers (users of capital)
o Banks develop facilities/instruments/products to make lending, borrowing possible
o Direct impact on a country’s production, local and international trade, economic growth and employment
Provide liquidity to the financial system
o Lending activities inject liquidity into the economy
o Fractional reserve banking allows banks to lend a high proportion of their deposits, which ultimately leads to increase in money supply (m=1/R)
o Central bank may adjust “R” to increase/decrease money supply and liquidity.
Provider of information
o Economics research and trends
o House prices indices
o Trade/credit/industry statistics
Central banks
Mandates from governments include:
o Price stability (achieved through monetary policy) for economic growth
o Supervision of banking industry
o Ensure effective national payments system
o Lender of last resort
o Administer exchange controls
o Banker of the state
ACC: Developing the solution
- Selecting Appropriate Actuarial Models
- Appropriate Assumptions
- Implications for all Stakeholders
- Determine a Proposed Solution and Alternatives
MODEL CONSTRUCTION
- An examination of the major actuarial models currently in use and how they may be adjusted for the particular problem to be solved
- Selection of the most appropriate model to use for the problem, or construction of a new model
- Consideration and selection of the assumptions to be used in the model.
MODEL RESULTS
- Interpretation of the results of the modelling process
- Consideration of the implications of the model results
on the overall problem.
- Consideration of the implications of the results for all
stakeholders
SOLUTION
- determining a proposed solution to the problem
- consideration of alternative solutions and their effects on the problem
- formalising a proposal
- communicating the proposed solution and the alternatives
ACC: Specifying the problem
- Setting out clearly the problem from the viewpoint of each stakeholder
- Assessing and analyzing the risks for each stakeholder
- Considering the strategic courses of action available to manage, mitigate or transfer the particular risks in question
- Analyzing the options for the design of solutions to the problem that transfer risk from one set of stakeholders to another
ACC: Monitoring the experience
- Analyzing periodically the actual experience against expected
- Identifying causes of departure from expected experience and determining whether each source is one-off or likely to recur
- Feeding back into the specifying the problem and developing the solution stages of the ACC
- Making sure the model is ‘dynamic’ (i.e. assumptions are consistent) and reflects current experience
THE MONITORING OF NEW CONTRACTS OR NEW ELEMENTS OF CONTRACTS SHOULD OCCUR MORE FREQUENTLY.
Key Topics Under the General Commercial and Economic Environment
ESPERIA, a magical environment far away
- External environment
- Stakeholders
- Providers of benefits
- Economic Influences
- Regulation
- Insurance products
- Asset Classes
What are the 3 different types of advice an actuary can give?
- Factual - based on research of facts
- Indicative - giving an opinion without fully investigating the issue, such as in response to a direct question
- Recommendations - researched and modeled forecasts, alternative weighted, recommendations made consistent with requirements, work normally peer reviewed
List the factors to consider in relation to the external environment
CREATE GRAND LISTS
Competetive structure Regulation and legislation Environmental issues and climate change Accounting standards Tax Economic outlook
(Corporate) Governance Risk management requirements Adequacy of capital and solvency New business environment Demographic trends
Lifestyle considerations International practice State benefits Technological changes Social and cultural trends
Principle aims of regulation
- to correct perceived market inefficiencies and to promote efficient and orderly markets
- to protect consumers of financial products
- to maintain confidence in the financial system
- to help reduce financial crime
Why is the need to regulation of the financial markets typically greater than for most other markets?
Firstly, the importance of confidence in the financial system. There is the risk that if one company collapses, it can cause a systemic financial collapse of the system.
Secondly, the asymmetry of information, expertise and negotiating strength that exists between the product provider and end customer.
These issues are exacerbated by the fact that:
- financial transactions are often long term in nature and can have a significant impact on the future economic welfare of individuals
- in general, most of the population is not well educated on financial matters and find the range of products offered both complex and confusing
Information asymmetry
The situation where at least one party to a transaction has relevant information which the other party or parties do not have
It includes
- anti-selection
- moral hazard
The area of information asymmetry that is of most concern is the asymmetry of information between the product provider and end customer. There is a difference in expertise and negotiating strength that oftern exists in financial transactions, particularly in retail markets
Anti-selection
People are more likely to take out contracts when they believe their own risk is higher than the insurance company has allowed for in its premiums
Anti-selection can also arise where existing policyholders have the opportunity to exercise a guarantee or an option. Those who have the most to gain from the option or guarantee will be the most likely to exercise it, for example, a guaranteed insurability option (lives in good health may find it cheaper to take out a new policy)
Moral hazard
The action of a party who behaves differently from the way they would have behaved if they were fully exposed to the consequences of that action.
The party behaves inappropriately or less carefully than they would otherwise, leaving the organisation to bear some of the consequences of the action.
Summarize the three main principles of insurance and pensions that impact the design of financial products and the benefits that can be provided from such products
- Insurable interest - in most countries, an insurance contract is only valid if the person taking out the contract has a financial interest in the insured event, to prevent moral hazard, fraud and other crime
- Pre-funding - individuals or corporate bodies put money aside in advance of the occurance a risk event, which is uncertain in terms of whether it will happen, its timing and amount. The amount of money put aside depends on the probability of the risk event occuring, the amount the risk event will cost, and the return that can be earned on the pre-funded money before the risk event occurs
- Pooling of risk - protects a group of individuals who pool their finances, against uncertainty in financial costs, which then leads to more cost-efficient provision than if each individual made their own financial provision
How can an investor holding shares in a big supermarket chain protect themselves against the fall in the value of these shares, using derivatives?
- Sell futures on the supermarket shares, ie enter into an agreement to sell shares on a specifies futures date at a price agreed now
- Buy a put option on the supermarket shares, ie give himself the right, but not the obligation to sell the shares on a specifies future date at a price agreed upon now
Defined Benefit Scheme
A defined benefits scheme is one where the scheme rules define the benefits independently of the contributions payable, and benefits are not directly related to the investments of the scheme
Benefits will be defined by a set formula, and might be linked to, for example:
- how long the member works for the sponsoring company
- the member’s salary at retirement
The scheme may be funded or unfunded.
The members’ benefits are promised and independent of investment return, longevity, and administration expenses. The risks, therefore, lie with the employer (if the members live longer than expected, the employer needs to pay more money into the scheme)
Defined Contribution Scheme
A defined contribution scheme is one providing benefits where the amount of an individual member’s benefits depends on the contributions paid into the scheme in respect of that member, increased by the investment return earned on those contributions
The risks lie primarily with the members, for example, if investment performance is poor, then each member’s accumulated fund will be smaller than expected and hence the annual pension lower than expected
If an annuity is purchased at retirement, then longevity risk passes to the annuity provider at this time. If an annuity is not purchased, then longevity risk remains with the member
Expenses risk may lie with the employer or the members depending on whether expenses are met separately by the employer or are met from charges taken from the accumulated fund
New business strain
Usually, in the first month of a life insurance contract, the insurer receives a premium but also has to pay out commission, initial administration, and underwriting expenses, set up provisions, and any solvency capital. If the outgo is more than the income, this is called new business strain
Income drawdown (Living annuity)
Allows an individual to leave their accumulated fund invested and draw an income from it annually. This may be just the income earned on the fund or may also include some of the fund capital
May be limits on how much can be drawn each year and an age limit at which point an annuity must be purchased.
One of the main drivers behind the income drawdown approach is that, should the member die before having to secure an annuity, the member’s heirs can inherit the balance of the fund
Main types of healthcare products
- Private medical insurance (PMI)
- Critical illness (CI)
- Long-term care (LTC)
- Other products and cash benefits
Aspects to consider in product design (Healthcare)
- Customer acceptability
- Regulatory requirements
- Price competitiveness
- System capabilities
Types of underwriting for short-term contracts
- Full medical underwriting - any pre-existing conditions will be excluded
- Moratorium underwriting - Instead of medical underwriting at the time of application, the insurer states the cover will not cover any medical conditions that existed during a pre-specified period prior to the policy commencing
- Medical History Disregard (MHD) - No exclusions for pre-existing conditions - more likely to apply on group policy offerings
- No worse terms - The new insurer agrees to cover at least as comprehensive as the policyholder’s current policy, with no additional underwriting conditions
- Continued personal medical exclusion (CPME) - The new insurer promises only to carry forward such cover for medical conditions sd existed under the previous insurance policy
Explain how the benefits for medical expenses may vary under PMI cover
PMI products will vary according to:
- Overall financial limits and/or sub-limits
- The level of the reimbursement rate for specific healthcare services
- Whether to limit covered services to a network of healthcare providers
- Whether to provide out-of-hospital benefits such as hearing aids and over-the-counter medicine
- Whether to include medical savings accounts (used for day-to-day medical expenses)
- Benefits required by legislation
- Risk transfer mechanisms
Describe the principle of mutuality in healthcare
A pooled fund is created and premiums are paid into the fund by policyholders.
The premium paid by the policyholders is determined by the RISK presented by the policyholder at the time of taking out the contract.
Claims are paid out of the pooled funds in accordance with the policyholder agreement.
Disadvantage:
While the risk pool is not sensitive to policyholders entering and leaving since each is contributing to their risk, high-risk lives will not be able to access cover due to affordability and this could have adverse social implications
Describe the principle of solidarity in healthcare
Solidarity is similar to mutuality in that they both involve the concept of sharing losses.
However, the main differences are:
- Under solidarity principles, the premiums are not based on risk, but rather on the ability to pay, or are set equally.
- Under solidarity principles, losses are paid according to need.
Private Medical Insurance (PMI)
PMI and related products are usually indemnity-based products that seek to provide compensation for the cost of private medical treatment.
Private medical treatment refers to medical expenses that would otherwise be funded by individuals or employers outside of the state-funded services in a country.
The extent of the cover will depend on the level and quality of State services offered in a specific country.
What customer needs does PMI meet?
If no state-funded care exists, then PMI will usually provide for all forms of healthcare needs on an indemnity basis.
If the State provides some level of healthcare to all, then PMI is usually bought when an individual requires care such as:
- medical attention without waiting
- medical attention in a higher standard of accommodation
- medical attention with a doctor of choice
- medical attention in a local or private hospital
Critical Illness (CI) cover
AKA dread disease, serious illness, crisis cash or living assurance
The benefit under this policy is typically a lump sum but can be structured as regular income, payable if the policyholder suffers one of the defined conditions
The characteristics of an illness or condition that make it appropriate for inclusion in a critical illness product are:
- it is a condition perceived by the public to be serious and to occur frequently
- each condition covered can be defined clearly so that there is no ambiguity at the time of claim
- there is sufficient data available to price the benefit
