Hi I have a few doubts in Ch 18 EV as per Acted 2019 no0tes: 1.On pg8,didn't understand the concept of subtracting PV of future releases of required capital from here Cost of required capital = Amount of required capital – PV (future releases of the required capital, allowing for investment return) 2. On pg11,What does fund exactly mean here? use bonus rates that are calculated to extinguish the fund – this approach places an implicit value on any free estate. 3. On pg 20,didn't understand if both discount rate and expected investment return are risk free so how does the following statement hold true? In these circumstances, a risk-neutral market-consistent EV would be expected simply to increase by the risk-free return each year. This is because the expected investment return and discount rate should both equal the risk-free rate.
We project forwards the pattern of release of the required capital for the in-force portfolio, allowing the capital to earn investment return at the expected rate up to its point of release. Discount the projected releases at the chosen discount rate. Take the difference, which will basically reflect the excess of the discount rate over the expected investment return. Equivalently, this assesses the opportunity cost of having this capital locked in.
To put this into context, it immediately follows the explanation of why the overall EV would (under certain caveats that simplify the position) increase by just the unwind of the discount rate on the PVIF + the expected investment return on free surplus. If these are both risk-free rates (as would be the case under a market-consistent assessment), the EV simply increases by the risk-free rate (in this heavily simplified scenario).
