AWP contracts has got my head in a spin!!

Discussion in 'SP2' started by fischer, Jul 22, 2009.

  1. fischer

    fischer Member

    The unitised version of AWP contracts has got me all confused!
    Q01 Before going to UWP, a question on unit-linked(UL) contracts: Can we have a with-profits(WP) UL contract, i.e. UL contract with bonuses?? Can we have a UL contract with guarantees?
    So, say a 1-yr contract where the investor is guaranteed a 5% return on death or maturity. If an investor invests £100 in the UL fund and if at the end of the year the fund value is £108, then will the company give the PH £100 + £5 + £3, where the break-up is original prem + guaranteed return + bonus?

    Q02 Back to AWP - if £1 buys 1 unit and the price of the units is fixed at £1 always. Term = 1yr. Benefit paid on death or maturity. Guaranteed return = 5%.
    If an investor buys 100 units with £100 at start. After 1yr, fund is worth £108. Does the company the give the PH 100 + 5 + 3 units, where the break-up is original units + guaranteed return units + bonus units? Then is this not the same as a UL contract?

    Q03 Does the surrender penalty on UL contracts not do the same thing as an MVR on unitised AWP contracts?

    Q04 The core reading says that for unitised AWP contracts, charges are taken through bonus rate.
    Isn't bonus rate = Actual investment return - Guaranteed investment return?
    Is this not similar to % of fund charges that we see for UL contract?

    Q05 Using my example above, there is no difference between the price of a UL contract and a unitised AWP, but the core reading says there is and I'm sure I have made a mistake somewhere!!
    (I think UL contracts don't have bonuses, so PH gets actual investment return without any split while for a unitised AWP the PH still gets actual investment return but split into guaranteed part and "bonus" part)

    Q06 Why do CWP contracts defer profits more that AWP if a regualr annual bonus distribution method is adopted?

    Any help will be much appreciated!
     
    Last edited by a moderator: Jul 30, 2009
    fischer, Jul 22, 2009
    #1
  2. Lynn Birchall

    Lynn Birchall ActEd Tutor Staff Member

    Hi

    No, we don't get UL contracts with bonuses. Yes, we can have UL contracts with guarantees.

    So, you could have a UL contract benefit amount that was Benefit = maximum (unit fund, guaranteed minimum amount). For example, using your numbers, Benefit = max [unit fund (ie £108), guaranteed minimum amount (ie £105)].

    Yes, the company would give the 100 + 5 (original units plus guaranteed units). It would also add bonus unit, but this wouldn't have to be equal to 3.

    The difference from the UL contract comes with the bonus units. These are at the discretion of the company. This is the big difference between UL and AWP. Under UL, the company has no discretion - it has to pay the value of the unit fund. Under AWP, company has discretion over bonuses. So, after the usual bonus considerations such as smoothing and deferral, it may add an annual bonus of 2 (say) in your example. When the AWP policy became a claim, the company could also add some terminal bonus units.

    (A slight aside :) , but the 100 units might cost the customer more than £100 to buy because of initial charges the insurance company might apply.)

    No, a surrender penalty and an MVR are doing different things.

    A surrender penalty is applied to recoup expenses. Surrender penalties could be applied to both UL and AWP contracts.

    MVRs are only needed on AWP contracts. This is because there is a risk with these contracts that the fund value (ie the initial units plus the guaranteed plus bonus additions the company has made) might be bigger than the value of the assets that the company holds (because the value of the assets can fall sharply, but the fund value doesn't change if this happens). So, the MVR can be used to protect the company against this risk (by reducing the fund value in the event of a claim).

    This risk doesn't arise for UL contracts (and so MVRs aren't needed) because there is a direct link between the value of the assets and the customer's fund value, so they will both automatically fall together.

    Again, this isn't quite correct because the company has discretion in setting the bonus rate for AWP. So "actual investment return - guar investment return" might be a guide, but there will be other factors taken into account, such as deferral, smoothing, charges, ...

    Hopefully the previous questions have cleared up the fact that the UL and AWP contracts are different? ;)

    Whether this is actually the case depends on the bonuses companies actually declare on the contracts. The idea is that deferral is more "obvious" on an AWP contract (eg it's obvious to the customer if investment returns over a year have been 6% say and the company declares an annual bonus of just 2%). It's less obvious on CWP because the bonus rates refer to a SA that is payable at some point in the future, rather than a fund value expressed in current money terms. Therefore, companies may be less able to defer profits on AWP than they are on CWP contracts.

    Hope these help:)
    Lynn
     
    Lynn Birchall, Aug 27, 2009
    #2

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