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Past paper Apr 2018 Q3i)

K

Kiran

Member
Hi, im not sure i understand the logic used in the examiners report this question.

I assumed that a higher surrender rate assumption would be more prudent in both instances, or at least it would depend on duration of when the surrender occurs. As profitability would be different at early durations would be onerous (due to not claiming initial expenses), and profitability at higher durations would be depend on asset share - surrender value paid. Either way, i thought the increase in surrenders (through an increase in rate), would be more prudent, increasing the reserves in both companies.

Regards

Kiran
 
Kiran said:
Hi, im not sure i understand the logic used in the examiners report this question.

I assumed that a higher surrender rate assumption would be more prudent in both instances, or at least it would depend on duration of when the surrender occurs. As profitability would be different at early durations would be onerous (due to not claiming initial expenses), and profitability at higher durations would be depend on asset share - surrender value paid. Either way, i thought the increase in surrenders (through an increase in rate), would be more prudent, increasing the reserves in both companies.

Regards

Kiran
Click to expand...
Hi Kiran

I think where you are going wrong in this question is by thinking about things retrospectively. The question is looking at the supervisory reserves which are calculated prospectively (as present value of future expenses less future charges) and so we need to set the margin in the reserves to be prudent, ie to give higher reserves.

Contract A has positive reserves. This means that future expenses exceed future charges, ie future net cashflows are negative. So it will be prudent to assume more policies in the future (ie more expenses) and hence low surrenders. The result of the margin is a more positive reserve, ie higher.

Contract B has negative reserves. This means that future charges exceed future expenses, ie future net cashflows are positive. So it will be prudent to assume fewer policies in the future (ie lower charges) and hence high surrenders. The result of the margin is a less negative reserve, ie higher.

I hope this helps.

Best wishes

Mark
 
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