Source of Risk

Question 1

Pricing assumptions

Answer 1

PIN-MODE
P - Persistency
I - Investment return
N - New business
– by nature and size
– by source
– by volumn
M - Mortality
O - Options and guarantees
D - Data
– Policy data and other data
E - Expenses, including effects of inflation.

Question 2

Other sources of risk

Answer 2

FAT-CRAC
F - Fraud
A- Action of board of directors
T - Tax
C - Competition
R - Regulation
A - Action of distributors
C - Counterparty risk

• Also consider Aggregation and Concerntration of risk

Question 3

The main management aims of a life insurer

Answer 3

• The main management aims of an insurer is to:
  – Maximise (or optimise with an acceptable level of risk) profits of the company, whether these go to s/h’s or WP p/h’s
  – Maximise (or optimise with an acceptable level of risk) the return that the company achieves on its available capital.
• The board will want to be sure that the capital in the company is being used to the best advantage.

Question 4

Three things to allow for when measuring risk against the aims of the insurer

Answer 4

• The capital and other resources available to the insurer
• The cost of failing to meet the public interest need, usually expressed in insurance supervisory legislation, for company to avoid insolvency
• the cost of failing to meet the requirements of any other applicable legislation.

Question 5

Three risks associated with mortality assumption

Answer 5

• Model risk
  – risk that the model chosen to represent future mortality, etc, may not be appropriate or may contain errors.
• Parameter risk
  – risk that the parameters used with the model may not adequately reflect the future experience of the lives insured or to be insured, even though the underlying model may be appropriate.
• Random fluctuations risk
  – the actual future experience may not correspond with the model and parameters adopted, even though these adequately reflect the class of lives insured or to be insured.
  – this is risk is most likely to arise if the numbers exposed to risk are not large enough for the ‘law of large numbers’ to apply.

Question 7

Managing expense risk

Answer 7

• At company level, and in the LT, the insurer should seek to at least contain expenses and commissions within the policy loadings built into the company’s premiums and charging rates.
• The insurer can monitor the actual levels of expenses being incurred and can companre these with policy loadings.
• The insurer will wish to ensure that its leevl of costs remains competitive.
• Commissions should be controlled by a regular monitoring procedure at the level of:
  – product line
  – distribution channel
  – Specific sales person/broker

Question 8

Managing persistency risk

Answer 8

• The company may seek to minimise the volume of lapses and surrenders.
• The company can monitor persistency rates by distribution channel and by the specific salesperson/broker.
• the level of commission or other remuneration can be designed to encourage better persistency and/or penalise early lapses and surrenders.
• ensure product sold is suitable to meet p/h’s needs
• maintain or improve quality of ongoing administration and contact with p/h.

Question 9

Managing new business mix and volumes

Answer 9

• Insurer to ensure that it has sufficient capital and administrative resources to allow the writing of new business.
• insurer should monitor extent of mismatch arising between actual new business sold and that assumed in original pricing of product.
• Typically monitor, by product line and distribution channel:
  – number of contracts
  – amount of premium
  – frequency of premium
  – policy charges/loadings
  – actual expenses incurred
  – new business valuation strain

Question 10

Mitigate extent of mismatch between actual expenses and policy charges/loadings

Answer 10

• Restrict or encourgage certain product lines and/or distribution channels
  – directly by structural change, or
  – indirectly by remuneration arrangements or level of other support given to the distribution channel or marketing literature to p/h’s.
• Reprice and/or redesign contracts, including possibility of an increased minimum premium.

Question 11

Management of options

Answer 11

• The insurer will seek to adopt continual monitoring and review of the benefits of options vs their costs.
• the insurer should monitor the charges/loadings included for options in pricing vs actual costs being experienced.
• The analysis should look seperately at:
  – take rate for the option
  – the profit/loss which arises once an option is exercised.
• If these assessment show that the continued availability of the option carries a net loss for the insurer then the option’s pricing should be increased and/or its availability should be reduced or removed altogether.
• the time lage between removal of an option and the impact of experience emerging must be borne in mind.
• it is likely that it will only be possible (legally and in terms of TCF) to amend the terms of new business written.

Question 12

Risk management process

Answer 12

• The overall risk profile to which it is exposed, based on an aggregation of the underlying risks that it faces, allowing for correlation effects.
• Risks should be controlled by analysing and explaining their nature, costing them as far as possible, and agreeing on maangement strategies for them.
  – deterministic and stochastic modelling methods may be used as appropriate to model the nature of the risks concerned.
• once risk management strategies have been agreed, they should be documented and implemented.
  – where strategies consist of objective rules and procedures, these should then be monitored on an ongoing basis.
  – Strong governance and controls are vital.