April 2020, Q4i

[studentactuary15]

On the mark scheme of this question (IFOA one) it says under the Risk Characteristics header, "However, Design B is exposed to lower surrenders when the guarantees are in the money".

I would have thought design B would be the opposite of what it is saying here. If policyholders (at any of the specific 10th, 15th, 20th policy years) see that their fund value is lower than 110% of single premium then they would want to cash out and surrender their policy, especially due to no penalties. I was thinking that they would feel like they would likely be at a loss and the market may not recover so they will surrender to earn 10% profit from their single premium.

The mark scheme seems to be saying the opposite, that surrenders would be low when the guarantees are in the money, i.e. when FV is lower than guaranteed amount.

I would really appreciate some comments - thank you in advance.

 

[Mark Willder]

Hi Rafi

Yes, I agree that Product B will get higher surrenders on the 10th, 15th and 20th anniversaries when the guarantee is in the money. But that wasn't what the examiners were referring to.

The examiners report says:

'Both designs are exposed to losses from early surrenders, when initial costs have not been recouped.
However design B is exposed to lower surrenders when the guarantees are in the money.'

So these two points are being linked and the idea is that design B has low surrenders at say time 5 if the policyholder thinks they will wait to exercise the guarantee at time 10 say.

Best wishes

Mark