April 2012 Q13 EPV of Expenses

[Balvinder Singh]

Can someone please explain why in the EPV of Expenses there is 65 and not 70?

Please see the question and solution attached.


Solution (Relevant part):





Many thanks!!!!!!!

Balvinder Singh

 

[Mark Mitchell]

We require an expense of 75 to be paid at the start of the second year (ie at time 1).

65 comes from the level annuity.

10 comes from the increasing annuity. Note that the second term in the increasing annuity Ia is 2 (not 1).

 

[Balvinder Singh]

Thanks Mark for your reply.

Would you please check the attached as well.

Thanks again

 

[Mark Mitchell]

No, that does not work. You can check this by trying the numbers in it to see if it gives the same as the published solution.

Your adjustment to the increasing annuity will only change the very first payment (ie the one made at time 0) - changing it from 1 to -1. So the increasing annuity term you have values a payment of -5 at time 0 (which does not occur).

The solution given by the examiners here is a good approach.

 

[Balvinder Singh]

I am afraid then why do we have a 10 from increasing annuiity? I am still confused as to why can't we use the approach attached. Would you mind having a look at this too?

Thanks heaps!

Balvin

 

[Michael Hosking]

You could do this, but you would need to use annuities in arrears. You would also need a term of 39 years (not 40) to ensure that there was no expense term on the final day of the policy.

It's much easier to do what the examiners have done.

 

[Balvinder Singh]

Thank you Michael.