Hi Tutor, I have mentioned all my doubts from chapter 23. Please help me with them: 1. What do we mean by Open Market Cash option? Can you please explain with the help of an example? 2. What do we understand by term guaranteed annuity rate ? For example --> we might be providing a guaranteed annuity option at retirement (which may be in many years’ time) guaranteeing a yield of, say, 3% pa --> So, in this example what that 3% is of ? 3% of fund value at the time of payment commencement ? 3. Am not able to understand this question: Ques: An insurance company offers guaranteed annuity payments on its without-profits deferred annuity contract and invested to match the future annuity option, and holds bonds. State, with justification, the type of derivative that the company would now look at in order to assess the cost of the option it is providing under its contract. Ans: The company could look at the price of a bond put option. Without a put option in place, the company is at risk if interest rates rise, its bonds fall in market value and the policy is surrendered for cash at retirement (or indeed at some earlier time). If it has a bond put option, it can sell those same bonds at a guaranteed price (or the put option will increase in price, which comes to the same thing) (a)What do we mean by invested to match the future annuity option? (b)This line --> If interest rate rise, bonds will fall then why policy is surrendered for cash at ret ( or earlier)? (c) What do we mean by cash here as well
Hi Kamal I think I've already answered your first two questions in your earlier thread. My reply to your earlier thread also covered question 3, but in addition: (a) We mean choosing assets that match the liability cashflows. So if the annuity has cashflows of 1 per year from time 10 to time 20, then we match with an asset that also has cashflows of 1 per year from time 10 to time 20. (b) Policyholder will prefer to take the cash at retirement than the guarnteed annuity if interest rates ris as they can then use the cash to buy a higher annuity from a competitor. (c) By taking cash we mean that the policyholder takes a lump sum at retirement. Using your example in the other thread, they take cash of 16 at retirement rather than the annuity of 1 per annum. Best wishes Mark
