Hi, could you someone please help me with following doubts: Question 25.4 ii solution says “ individual surplus would reduce concentration of risk, which will prevent any one policy having a retained sun assured bigger than the chosen retention level, reducing claim fluctuations” What is meant by concentration risk here and how individual surplus is taking care of it? and in quota share method solution says “parameter risk is an issue despite policies are with profits, because none of the mortality risk is shared with policyholder” does the insurance company not pass the mortality risk to Policy holder in without profit products? 2019 version material On page 16/17 : question explain why deposits back apply to original terms and net level prem arrangements, the solution says” under normal risk prem arrangement, insurer holds all of the policy reserve anyway and so there will be no reserves to deposit back” I did not understand why insurer holds all of the reserve in risk premium but in original terms insurer doesnt hold all of the reserve? On page 17 reading says, “ On with profit business, original term rearrangement would normally leave reinsurer with investment risk because it would have to match insurer’s bonus rate on maturity claims” I am unable to understand it, would the reinsurer not take care of the bonus payments as well in reserve calculated? page 20 question “ a small unit linked…. Need for a financing arrangement” what is meant by nil initial allocation period? thanks!!
Another question, solution 25.4 financial reinsurance section solution says “ it is not effective under accounting or supervisory regimes where credit can already be taken for future profits” how does this work ? Also could you please explain the concept of VIF ( value in force) and when does this not work when realistic valuation basis are held thanks!!
Hi Priyanka I will answer your queries in turn in the following separate posts. In this case we are looking at risk being concentrated on a single individual with a large sum assured. In other contexts risk might be concentrated in other ways, eg by geographic region. Under individual surplus reinsurance the reinsurer pays all the claims above the insurer's retention. So the insurer might have a retention of 100,000. This protects them from very large claims. For example risk might be concentrated in a particular policyholder (maybe the chief executive) with a sum assured of 2 million. The reinsurer would pay 1,900,000 if this became a claim and the insurer would only pay 100,000. I will return to your other queries in the next posts. Best wishes Mark
Thanks for the explanation! the solution further says “ which will prevent any one policy having a retained sum assured bigger than the chosen retention level, reducing claim fluctuations “ so if the retention level is 10,000 retained sum assured is 90,000 in this case insurer would only pay 10,000 , so why does the solution is saying otherwise ? Please let me know if I have misunderstood this Thanks!!
Hi Priyanka I think you are muddling up the insurer's retention with the amount paid by the reinsurer. If the policyholder has a sum assured of 100,000 and the retention is 10,000, then the insurer pays 10,000 and the reinsurer pays 90,000. The retained sum assured is 10,000, ie it is retained by the insurer. Best wishes Mark
Hi Priyanka No the insurer carries all the risk for without-profit policies. The premium and benefit are fixed for the policyholder regardless of what happens. So if claims turn out to be twice as high as expected then the insurer pays twice as much, ie the insurer carries all the risk. For with-profits we would say that the risk is shared between the insurer and policyholders, because lower bonuses can be paid if experience is bad. Best wishes Mark
Thanks for the explanation! so this means that although risk is shared between policyholder and insurer in case of with profits, “mortality risk” is not shared? I guess this is why quota share is useful in case of with profits as exposure to parameter risk can be taken care of. Thanks!
Hi Priyanka Often mortality risk is shared between policyholders and shareholders for with-profits contracts, eg this is usually the case for conventional with-profits. However, this question looked at the revalorisation method. For revalorisation the insurer often takes all the insurance profits and losses. Only the investment profits are shared with policyholders. Best wishes Mark
Hi Priyanka We meet the concept of VIF when we look at embedded values. The present value of future profits on the in force business (hence value of in force or VIF) represents the release of margins in the valuation basis. For example we may use a prudently low investment return and so calculate a high reserve. But our best estimate is that interest rates will be higher, so the actual investment return will exceed the expected (valuation) interest rate, and a profit is made each year. These profits are discounted to calculate the VIF. Let's now consider financial reinsurance if reserves are prudently calculated as above. The insurer expects to make profits when the reserves are released. So it can take out a loan from the reinsurer (this increases the assets) and pay it back using these profits (in some countries this does not increase the liabilities as the loan is only repaid if future profits are made). Finally let's think about what happens if reserves use best estimate assumptions. These best estimate reserves will be smaller than the prudent reserves, eg because the best estimate investment assumption is higher. There are no margins for prudence in these reserves and so no profit is expected to emerge in the future. Therefore VIF = 0. So financial reinsurance won't work because there are no future profits to pay back the loan. Best wishes Mark
Hi Priyanka In original terms the insurer might pay 40% of the claims and the reinsurer might pay 60%. Similarly the reinsurer might take 60% of the premium and so hold 60% of the reserve. With risk premium reinsurance on a sum at risk basis the reinsurer is only taking on part of the risk of claims in excess of the reserve. Best wishes Mark
Hi Priyanka Under original terms the reinsurer might agree to pay 60% of the claims. The claim amount will include the sum assured and the bonuses. So the reinsurer has to pay 60% of the bonuses. This introduces investment risk as there is a risk that high investment returns for the insurer lead to high bonuses and hence high claim payments for the reinsurer (which may not have invested in the same way as the insurer). Best wishes Mark
Hi Priyanka The allocation rate is the percentage of the premium that is paid into the unit fund. Some companies have a 0% allocation rate for the first few months - this means that the premium is all taken as a charge into the non-unit fund to help to offset initial expenses. The nil initial allocation period is the length of time for which the allocation rate is zero. Best wishes Mark
