CP1 - Chapter 20

[Darragh Kelly]

Hi,

I have a few question's in relation to chapter 20 of the notes.

Solution to question page 5

If the provisions are too big:

- The funding/solvency level will appear to be…

What is the logic in this bullet point regarding when provisions are too big? Why is the funding level appearing lower then actually is when more provisions are being set aside? Is it because solvency level = assets – liabs = solvency level, and if liabs are too big (high provisions) then solvency level is low?

If the provisions are too small:

- Profits will be recognised earlier and the payment of tax will be accelerated

Does this mean that profits are bigger as provision is small so then tax can be calculated earlier? I thought regardless profits are recognised at the end of the financial year regardless of what provision is set aside?

Section 4.1 Temporary initial selection (page 15)

I guess I kind of get temporary initial selection but am struggling with the way it’s worded here. Is it basically grouping people on the basis of a specific event (checking health status in underwriting process? What else would be considered an event?) which then creates heterogeneity (differences) within the group? And this is temporary as over time people who are healthier at a certain age, tend to converge towards the same health status at older ages?

Lastly what is selective withdrawal? Is it a form of anti-selection eg healthy lives lapsing on their life insurance policy?

Many thanks in advance,

Darragh

 

[James Nunn]

Hi Darragh

Your query on the solution to question page 5:

Agreed on all points. On the latter, if reserves are lower, profits are recognised earlier, rather than being held back as assets to cover the reserves before being released later. The amount of tax is proportionate to the amount of profit so earlier profit means earlier taxation.

Your section 4.1 queries:

Regarding your first paragraph, you’ve got the right idea, and underwriting is the only example of temporary-initial selection that’s considered for CP1. However, it ensures more homogeneity in the group of lives insured at least (rather increased heterogeneity) as bad risks will be removed by underwriting so risks insured will be more similar.

Regarding your last paragraph, that’s correct.

I hope that helps. All forms of selection covered in CP1 will be covered in your next (Day 3) tutorial.

 

[Darragh Kelly]

Hi Darragh

Your query on the solution to question page 5:

Agreed on all points. On the latter, if reserves are lower, profits are recognised earlier, rather than being held back as assets to cover the reserves before being released later. The amount of tax is proportionate to the amount of profit so earlier profit means earlier taxation.

Your section 4.1 queries:

Regarding your first paragraph, you’ve got the right idea, and underwriting is the only example of temporary-initial selection that’s considered for CP1. However, it ensures more homogeneity in the group of lives insured at least (rather increased heterogeneity) as bad risks will be removed by underwriting so risks insured will be more similar.

Regarding your last paragraph, that’s correct.

I hope that helps. All forms of selection covered in CP1 will be covered in your next (Day 3) tutorial.

Hi James,

Happy new year!

Thanks for all the help on above. Just on the point on temporary-initial selection - so yeah that makes sense using the underwriting example. It should group lives into homogenous groups (ie smokers and non-smokers, medical history etc), so the insurance firm now is above to indentify risks and charge an appropriate premium and/or provide an appropriate product?

Thanks,

Darragh

 

[James Nunn]

Hi Darragh

No worries at all and yes, your understanding of the purpose of underwriting is correct, which is to:

1. ensure that really 'bad' risks (eg, in the extreme, someone expected to die in the next few weeks applies for a term assurance policy) aren't insured, or that changes are made to policies for high risks (eg exclusions, cover limits, etc) so as to make them less risky for the insurer for these policies
2. ensure that premiums charged reflect the level of risk posed by a policy.

James

 

[Darragh Kelly]

Hi James,

Apololgies on delayed response. That's all clear now thanks for explaining that in detail.

Thanks,

Darragh