Hi, Could you please help me understand the basic behind using cashflow projections to value mortality options? When we project the cashflows, we are projecting all future inflows and outgoes for this option. are we projecting the net cashflows/profit at each future time period? do we then discount it back to the option take up date to get our cost of option? Are we then expecting a negative amount as our cost of option? Thanks in advance
Hi Y Chen Yes, we will be projecting all the inflows and outgoes and discounting them back. We would normally discount back to the start of the contract. We expect a positive cost for the option as the outgoes will be bigger than the inflows due to anti-selection when policyholders exercise the option. We must then calculate an additional option premium to cover this cost. Best wishes Mark
