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ST6_aspirant ST6_aspirant is offline
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Default Net premium valuation - 07-05-2012, 04:46 AM

Hi,

Pls refer page 12 of chapter 20. They have given the formula for a net premium reserve for a regular premium with profits endowment assurance and the formula for the net premium.

My question: should the basis for the calculation of net premium and net premium reserve be different? Why or why not? Setting a best estimate basis for net premium will lower net premium and give higher net premium reserves, which seems prudent. Am I missing something.

Second question: at the time of basis setting for year end, would I change both the bases or only the net premium valuation basis?

Thanks.
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Mark Willder Mark Willder is offline
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Default 07-05-2012, 08:43 AM

Quote:
Pls refer page 12 of chapter 20. They have given the formula for a net premium reserve for a regular premium with profits endowment assurance and the formula for the net premium.

My question: should the basis for the calculation of net premium and net premium reserve be different? Why or why not?
The net premium and the net premium reserve should always be calculated using the same valuation basis.

I guess the reason is historical. Net premium reserves were in use before computers were widely used. One of the advantages of the method is that you don't need to record the actual premium (or previous net premiums) on the valuation system. You can always work out the net premium each time.

Quote:
Setting a best estimate basis for net premium will lower net premium and give higher net premium reserves, which seems prudent. Am I missing something.
Yes, you're right. Using the valuation basis for the net premium gives us a high net premium and hence a lower reserve.

However, using a strong/prudent basis will usually increase the value of the claims more than it increases the net premium. So generally using a more prudent basis will increase reserves.

But you're right, this feature of net premium valuations can be a problem. We'd say in the exam that "net premium valuations are relatively insensitive to valuation basis changes" because an increase in prudence for the value of the claims is at least partly offset by the higher net premium.

Quote:
Second question: at the time of basis setting for year end, would I change both the bases or only the net premium valuation basis?
You would need to change the basis for calculating the net premium too.

Best wishes

Mark
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ST6_aspirant ST6_aspirant is offline
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Default Net premium valuation - 07-05-2012, 07:22 PM

Understood. Thanks!
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