Panning: Managing Interest Rate Risk

Question 1

Franchise value

Answer 1

Economic value to the firm of future renewals

Invisible to firm’s senior officers

Question 2

Where franchise value is typically reflected

Answer 2

Insurer’s stock price

Question 3

Equation for net income

Answer 3

P - L - E + y*(S + P - E), where y is risk-free rate

Question 4

Current economic value, definition

Answer 4

Value of current assets less discounted value of expected losses

Question 5

Current economic value, formula

Answer 5

C = S + P - E - L / (1+y)

Question 6

Franchise value, equation

Answer 6

Question 7

Franchise value where k = a + by

Answer 7

Question 8

Duration of Franchise Value

Answer 8

Question 9

Problem with managing interest rate risk of franchise value

Answer 9

Reducing duration of invested assets invisible to regulators

Greater franchise value, more difficult to reduce duration

Question 10

Key insight from Panning’s paper

Answer 10

Firm’s pricing strategy can significantly affect duration of franchise value by way of selecting a and b parameters to k = a + b*y

Implementing a pricing strategy is nearly as invisible as the franchise value

Question 11

Problem with relying on traditional accounting rules to identify firm’s economic assets and liabilities

Answer 11

Blinds us to importance of franchise value