Topic 1 Flashcards
What’s an endowment assurance ?
A type of assurance that provides a benefit on survival to a specified maturity
Reasons for purchasing an endowment assurance
A savings vehicle; to provide lump sum on retirement
Provide protection for dependents; contract has a significant death benefit on the death of life assured b4 maturity date
Pay off an interest only mortgage
Endowment assurance contracts are available on the following basis;
Non profit
with - profit
Unit- linked
Non profit endowment
Provides a guaranteed sum assured at maturity, in return for regular premium payments throughout the contract/ a single premium @ the start of a contract
With-profit endowment
Entitles the p/holder to a share of the profits made by the company during the term of the contract
Profits distributed regularly ( on an annual basis) by payment of bonuses to the p/holder
Unit -linked endowment
Premiums paid by the p/holder are used to purchase units in a pooled investment fund
Benefit payable depends on the no. of units held and current bud value of the units ( determined by market value of the underlying asset) & charges levied by the insurance company.
Unitised with-profit contract
Hybrid product where units are invested in the insurer’s with-profits fund
In a UWP contract;
Price of units - fixed & bonus declared - used to purchase additional units
OR
No. of units - fixed & unit price increased to reflect bonus rate
Main advantage of UWP over the conventional with- profit
P/holders find them fairer and easier to understand since bonus is related to the accumulated fund ( premiums paid to date + previous bonuses) rather than sum assured
Risks faced when having the endowment assurance contract;
Investment risk - savings nature of the contract introduces this risk for both the company and the p/holder . Extent of the risk depends on the type of endowment contract ( non-profit , with- profit and unit-linked )
Investment risk
Risk that the actual investment return is less than expected
How does the nature of the contract affect the level of investment risk borne by the insurer ?
Non-profit- Risk is high
With-profit - Risk is medium or average; if actual returns are low then bonuses can be reduced
Unit-linked- low risk since investment risk is borne by the policyholder
How might investment risk be controlled ?
Invest in assets that match the nature , term and currency of the liabilities eg fixed income assets for guaranteed benefits and real assets for discretionary benefits.
Mortality risk
The risk that actual mortality experience is worse than expected
Level of death benefit will determine the extent of the mortality risk faced by the insurer
Levels of mortality risk with different contracts
Contract with no death benefit ( maturity benefit larger than other benefit) - insurer faces longevity risk ( more p/holders survive to maturity than expected )
Death benefit as a return of premiums - mortality risk insignificant apart from near the start of the contract
Contract pays a large death benefit ( equal to the maturity benefit ) - insurer faces significant mortality risk ( @ early durations ) - insurer faces a loss if more p/holders dies in a given year than expected.
Why does mortality risk decrease as the in- force duration increases?
The sum at risk(benefit - life fund ) reduces over time as fund is built up
Control of mortality risk
Underwriting to identify lives in below- average health
Charge higher premium for impaired lives / decline cover
Limit the death benefit to return of premiums / apply a waiting period eg 2 years
Anti- selection risk
Associated with mortality risk
Risk that the individual believes that his/ her own risk level is higher than allowed for by the insurance company
Why might anti-selection risk associated with mortality risk be not that significant?
An individual in poor health will be better off purchasing term assurance
Expense risk
Risk that actual expenses incurred are greater than those assumed when writing a business.
Why might the actual level of expenses be greater than that assumed ?
Higher than expected expense inflation
Lower volumes of sales over which to recover fixed costs
Lower investment returns , thus lower management charge on unit -linked business
Withdrawal risk
Risk that the withdrawal benefit is higher than the asset share
What is asset share ?
Accumulation of premiums paid to date- expenses incurred- cost of cover
Withdrawal risk may likely be highest at early durations when asset share is negative. Why?
High initial expenses( commission and underwriting)+ cost of setting up statutory reserves ( can exceed initial premium)
What is the New Business Strain?
The amount of initial capital required
Factors affecting the initial capital required to write a contract ;
Level of initial expenses ( including initial commission) - the greater the level of initial expenses , the greater the initial capital required
R/ship btwn the pricing and supervisory reserving bases - in practice, statutory reserving basis > the pricing basis
The greater the difference btwn pricing and supervisory reserving basis , the greater the initial capital required
Contract design
the higher the levels of guarantees implicit in the contract, the higher the initial statutory reserve & hence the larger the initial capital requirement
Premium payment frequency
initial capital requirement increases as the frequency of premium payment increases
higher frequency means a low initial premium
Whole life assurance
Provides a benefit on the death of the insured life , whenever that might occur
General purpose contract for providing long-term protection against a financial loss to the dependents on the death of the insured
Most whole life assurance contracts tend to be non- profit in nature . Why?
It is a protection contract and as such , the policyholder will not benefit from sharing investment risk
An early death exclusion may be applied on death in the first two years . Advantage? Disadvantage?
Advantage
Simple , reduces underwriting , cheaper , increased marketability, reduced anti- selection risk
Disadvantage
May create dissatisfaction and reputational risk
Some features may be added to the whole life assurance policy;
Surrender value - available but would be restricted to the policy being in-force for at least 2 years to discourage withdrawals and anti-selection
Premium protection option- payment of premiums continues in case the p/holder is unable to continue with premium payment due to specified disability, critical illness or retrenchment.
What will determine the significance of the investment and mortality risks ?
Age at entry
In- force duration of the contract
Other risks faced in the possession of a whole life assurance contract
Expense risk- significant expense risk- higher expected inflation. Particularly significant for contracts with a long current in- force duration
Why? ( previous question)
Expense loading in in-force products with long current durations may be very different to expenses actually being incurred now eg due to expense inflation
Withdrawal risk ( Whole life assurance )
Possible @ early durations when the earned asset share is negative . Company could mitigate this by ;
Applying waiting periods
Surrender penalties
Commission clawbacks
Main factors affecting initial capital requirements for whole life assurance contracts ;
Level of initial expenses ( commission and underwriting )
R/ship between pricing and statutory reserving bases
contract design eg level of implicit guarantees
Frequency of premium payment
