April 2017 Q10i

I am struggling to get my head round the inflation trending in this calculation. In the aset solution an index is created whereby we trend product recall by a factor of 0.98^2.5
My understanding was that when we trend inflation to the midpoint of the exposure period, it was based on the fact that policies on average are written midway through year (or is it when the inflation occurs?). Hence, midpoint of period 4 to midpoint of period 6 should be 0.98^2. (I understand that this form of solution was accepted just want to wrap my head round the intuition of 0.98^2.5)

 

Hi Edward

The policy starts from the beginning of each year since it's just being issued to a single pharmaceutical company. What we are trying to project is the claims cost in year 6 so we can assume

1. the product recall happened and will happen on average mid-year, and
2. inflation continues into year 6 at the rate it was at the end of year 5.

For year 3 the product recall happened averagely at mid-year so the cost needs to be trended for a half year to the end of year 3 at 0% inflation then deflated at 2% for 2.5 years to mid-year year 6.