Asset Share & With Profits Product

[Goh Ze Liang]

Hi ! Good day. Hope you guys are doing well. I have a few queries pertaining asset share & with profit products.

Q1: The asset share is effectively the accumulated of premiums with investment returns less any deductions. One of the typical deductions mentioned is the Charges of smoothing. I understand that the difference between the actual asset share and a smoothed asset share will be the smoothed amount, but i assume this is not being used as a cost of smoothing or charges of smoothing else it is the same as the unsmoothed AS. Can i take it as the cost of smoothing would be the "opportunity cost"? Say using the difference in amount between SAS & AS multiplied by a investment return? Appreciate for the enlightenment in this questions.

Q2: I am bit confuse about the relationship between estate (usually understand it as undistributed surplus or asset less liabilities) and asset share. The undistributed asset will grow if the company continuously underpay the regular bonus (means will have higher TB)- do i it understand it as the estate will grow as well? During maturity, the TB will be the Earned AS (may be smoothed or un-smoothed) less then SumAssured+Bonus declared. Hence say, for illustration purposes, assuming a 2 year term policy, at t=1, the policy has asset share of 100 and the SA is 50, the company decides to declare a 30 dollar RB and hence the SA increase from 50 to 80. The additionally 20 undistributed ones are still remained within the Asset share, just that it has not been declared and will be pay out at maturity via TB. Hence the questions is where does the "estate" come into play? if following, this logic means any underpayment or undistributed profits is not going to flow to any of the estate and will just be retained in the asset share of the policies. And how the the estate being build up assuming a company just started up and starting to have its first with profit policies.

Apologies for the lengthy thread and thank you in advance.

 

[CT9775]

Hi, thanks for Ze Liang's question. On top of that, I also had another question in regards of AS calculation for UWP business. Say in Retrospective accumulation using actual expense method (aka Vintage approach), the AS is accumulated by the premium paid deducting the actual expense. However, I did not observe any charges in regards of cost of benefit in excess of AS in the calculation, which usually exist in the conventional with-profits business.

Am I right that in a simple UWP product, the benefit payout would simply be the fund value, therefore the cost of benefit in excess of AS would then be 0? Furthermore, if we varies the product design to implement some guarantee benefit into UWP, does this means there would a cost of benefit in excess of AS deductible in the AS calculation?

Best Regards,
Chris

 

[Goh Ze Liang]

Any Feedback from the Tutor is highly appreciated

 

[Lindsay Smitherman]

Q1: The asset share is effectively the accumulated of premiums with investment returns less any deductions. One of the typical deductions mentioned is the Charges of smoothing. I understand that the difference between the actual asset share and a smoothed asset share will be the smoothed amount, but i assume this is not being used as a cost of smoothing or charges of smoothing else it is the same as the unsmoothed AS. Can i take it as the cost of smoothing would be the "opportunity cost"? Say using the difference in amount between SAS & AS multiplied by a investment return? Appreciate for the enlightenment in this questions.

Hi - yes you are correct that this would not be the actual cost of smoothing, since that would be self-defeating (as you indicate). The company would determine some level of notional smoothing charge that would be deducted from asset shares, where this charge effectively compensates the estate for providing the capacity to smooth. So yes, it's good to think of it as being a type of opportunity cost, since the amount of estate that is supporting smoothing could be being used for other purposes. It's perhaps worth noting that not all companies would apply such a charge to asset shares.

 

[Lindsay Smitherman]

Q2: I am bit confuse about the relationship between estate (usually understand it as undistributed surplus or asset less liabilities) and asset share. The undistributed asset will grow if the company continuously underpay the regular bonus (means will have higher TB)- do i it understand it as the estate will grow as well? During maturity, the TB will be the Earned AS (may be smoothed or un-smoothed) less then SumAssured+Bonus declared. Hence say, for illustration purposes, assuming a 2 year term policy, at t=1, the policy has asset share of 100 and the SA is 50, the company decides to declare a 30 dollar RB and hence the SA increase from 50 to 80. The additionally 20 undistributed ones are still remained within the Asset share, just that it has not been declared and will be pay out at maturity via TB. Hence the questions is where does the "estate" come into play? if following, this logic means any underpayment or undistributed profits is not going to flow to any of the estate and will just be retained in the asset share of the policies.

The estate is normally defined as the assets minus the realistic liabilities. These 'realistic liabilities' might be defined solely as the asset shares, or as asset share + cost of guarantees. So the estate is basically all of the assets in the WP fund in excess of the asset shares, and possibly also in excess of money set aside to meet the cost of the guarantees inherent in WP business. Yes, it comprises undistributed surplus - but it isn't all of the undistributed surplus. The excess of asset shares over guaranteed benefits is also 'undistributed surplus'. I would therefore suggest not thinking about it in that way.

If the company pays a low RB then that makes very little difference to the estate compared with an otherwise identical company that pays a higher RB, because the total asset share is (broadly) unchanged. Remember: the asset share represents the accumulation of the actual assets relating to each policy. RB gets added to the sum assured (CWP) / fund value (AWP), not to the asset share. There could be second-order differences to the asset share accumulation due to different levels of shareholder transfer and cost of life cover as a result of the different levels of RB, and the cost of guarantees will also differ slightly - but these differences will be pretty small.

 

[Lindsay Smitherman]

And how the the estate being build up assuming a company just started up and starting to have its first with profit policies.

Good question!

WP companies in the UK evolved from mutuals that were originally set up (hundreds of years ago) by related groups of people as a form of collective insurance (often as 'friendly societies'). They were set up to provide insurance to members of a certain profession / society or to those who lived within a particular village / town. The original seed capital could have come from those who first joined, or from wealthy benefactors who saw it as a good cause. Much of the original capital injection was done on an altruistic basis.

If a proprietary company were to start writing WP business now, it would need to do so on a basis that adequately compensated the shareholders (who would have to provide the capital). For example, UWP business written on a 0/100 basis (as mentioned in the course), which is very similar to unit-linked business but providing smoother returns.

 

[Lindsay Smitherman]

Hi, thanks for Ze Liang's question. On top of that, I also had another question in regards of AS calculation for UWP business. Say in Retrospective accumulation using actual expense method (aka Vintage approach), the AS is accumulated by the premium paid deducting the actual expense. However, I did not observe any charges in regards of cost of benefit in excess of AS in the calculation, which usually exist in the conventional with-profits business.

Am I right that in a simple UWP product, the benefit payout would simply be the fund value, therefore the cost of benefit in excess of AS would then be 0? Furthermore, if we varies the product design to implement some guarantee benefit into UWP, does this means there would a cost of benefit in excess of AS deductible in the AS calculation?

Best Regards,
Chris

Yes, there could be charges deducted from the asset share for the cost of life cover, reflecting any excess of death benefit over asset share. The death benefit payment on UWP business could be based on the higher of the fund value (or perhaps 101% of it, say) and the asset share (then if the asset share is higher than the fund value, a TB would be paid). To the extent that this benefit exceeds the asset share (eg in the early years, when the fund value could be higher than asset share), cost of life cover charge deductions could be made. And yes, it is possible that an explicit minimum benefit could be part of the product design, in which case there would be more reason to make such charges.