Net premium reserve

[Mateusz]

Hello,
I have a pretty basic question about the net premium reserves. I've always understood that each time reserving basis is changed, the net premiums are recalculated using this rather than the pricing basis. But if we did try to stick to the pricing basis only to set the net premium and use valuation basis for all the rest (ie PV of benefits, annuity in the PV of premiums), what would go wrong with this method? I mean, what would be the main arguments against such a modification to the standard approach?

To provide some context, I'm thinking of a situation when interest rate used to price the office premium were high and then with time the valuation interest rate was significantly reduced, to the point that the gross premium turned out to be lower than the net premium recalculated using this low interest rate. Then the difference between the gross premium and the net premium might not seem sufficient to cover the expected expenses.

Thank you!
Mateusz

 

[Mark Willder]

Hello,
I have a pretty basic question about the net premium reserves. I've always understood that each time reserving basis is changed, the net premiums are recalculated using this rather than the pricing basis. But if we did try to stick to the pricing basis only to set the net premium and use valuation basis for all the rest (ie PV of benefits, annuity in the PV of premiums), what would go wrong with this method? I mean, what would be the main arguments against such a modification to the standard approach?

To provide some context, I'm thinking of a situation when interest rate used to price the office premium were high and then with time the valuation interest rate was significantly reduced, to the point that the gross premium turned out to be lower than the net premium recalculated using this low interest rate. Then the difference between the gross premium and the net premium might not seem sufficient to cover the expected expenses.

Thank you!
Mateusz

Hi Mateusz

You are right that the net premium should be changed whenever the valuation basis is changed.

The net premium valuation is a fairly passive approach to valuing an insurer. I agree it doesn't respond well in some circumstances. But if we want to use an active valuation approach then we would use a gross premium valuation rather than trying to fix a net premium valuation.

Best wishes

Mark

 

[Mateusz]

Hi Mateusz

You are right that the net premium should be changed whenever the valuation basis is changed.

The net premium valuation is a fairly passive approach to valuing an insurer. I agree it doesn't respond well in some circumstances. But if we want to use an active valuation approach then we would use a gross premium valuation rather than trying to fix a net premium valuation.

Best wishes

Mark

Thank you Mark for your answer. So it's more about active vs passive valuation - if we tried to use the net premium but calculated under the pricing basis we'd have a much more active method because, similar to the gross premium reserve, differences in the valuation vs pricing bases would be immediately taken as profit or loss.
Kind regards,
Mateusz

 

[Mark Willder]

Thank you Mark for your answer. So it's more about active vs passive valuation - if we tried to use the net premium but calculated under the pricing basis we'd have a much more active method because, similar to the gross premium reserve, differences in the valuation vs pricing bases would be immediately taken as profit or loss.
Kind regards,
Mateusz

Hi Mateusz

Yes, the net premium valuation method is only found in the course as an example of a passive valuation approach. The net premium should be calculated on the valuation basis.

Best wishes

Mark