Hi Mark, in the solution to X1.2, aren't these 2 points the same under the Expenses heading? - The indexation of premiums also reduces the risk, as the increased funds are likely to produce higher income from charges. - Higher inflation might be associated with higher nominal investment returns. If so then any fund-related charges would increase.
Hi Kimiko These points are different. The first point says the fund will be bigger if the premium is bigger. The second point says the fund will be bigger if the investment return is bigger. Best wishes Mark
Thank you, Mark! Can you kindly explain in X1.4 Solution below, will the index not reflect this depreciation so the liability to Spanish policyholders also decrease? "If the company invests in the Japanese and US markets and the yen or dollar depreciates against the euro then there is potentially a large loss from the mismatch between the liability to Spanish policyholders and the value of the underlying assets."
Also, in X1.5: - "The asset share may actually be reduced by interest when the asset share is negative, which is more likely to be significant for the term assurance." Can you kindly explain why its more significant for term assurance? - This part about endowment assurance "... is likely to have a higher risk investment strategy, eg including some equity exposure." What would the investment strategy be for term assurance? Why is endowment assurance riskier, because of more premiums to invest (I thought this would increase investment risk thus reduce riskiness of investment strategy)?
Hi Kimiko No, the index for US shares will be measured in dollars as this is the currency used in the USA (eg the Dow Jones index). Best wishes Mark
Also, can you kindly help me understand the last part in the solution below for X1.7: "The policy will also usually be subject to periodic premium reviews, ... ... where the policyholder’s premium level may be adjusted to allow for any expected or known changes in the future charges, ... ... and to reflect unit growth rates, both past and future. "
And this in X1.7(iii), I thought the level of premiums would be decided by the company based on the level of cover the policyholder wants, seems like here t is saying policyholder can decide both: "A possibly substantial risk is where the policyholder maintains too high a level of cover for too low a level of premium. As a result, the unit fund might become exhausted by a particular age, which will either require a very large increase in premium to restore the benefit level, or the policyholder left with reduced cover or even no cover at all (policy lapses)." Or is that only applicable for guaranteed benefits? For guaranteed minimum benefit, the reserve, premiums and charges will increase right?
Hi Kimiko This is quite a common feature for unit-linked whole life contracts. As the person gets older the mortality charges will increase. There is a danger that the fund will not be large enough to pay the higher charges. So the premium is reviewed to increase the premiums to a level that can cover the charges until the next review date. Best wishes Mark
Hi Kimiko These contracts can be very flexible. The policyholder chooses the premiums. The insurer set the charges. Best wishes Mark
Hi Kimiko Term assurances have small premiums as there is no maturity benefit. So it is more likely that the initial expenses will exceed the first premium. Term assurances would be backed by cash and bonds. these are less risky than the equities that form part of the with-profits assets. Best wishes Mark
Hi Mark, so in this case (which is a less common very flexible case if I understand you correctly), if the level of cover is chosen to be very high and the premium is chosen to be very low, the charges would be high? Then if the unit fund decreases to 0, the policy will lapse? What if the policyholder dies before the unit fund reaches 0? I assume the company accepts that risk since the probability of this occurring is not high. Then this is the more common type of unit linked contracts where the insurer sets and reviews the premiums (and charges - or are these included?) depending on the "progress" of the unit fund for a set SA?
Further, for X assignment 3: (a) In the solution to X3.3(i), can you kindly help me understand this sentence: "It will be important to model the cost of capital in this case as the initial expenses and solvency capital requirements are likely to be much larger than the first premium." From my understanding, cost of capital is the profit the shareholders expect to get for providing the capital so does this sentence mean that because of the large initial expenses and SCR, shareholders would have to provide more capital thus it is more important to model this capital's profit? (b) In the solution to X3.3(ii), can you kindly help me understand these sentences: "If the business was only going to cover marginal expenses then there seems little to recommend it beyond maintaining a market presence ..." "The importance of maintaining a wide range of products depends on the sales distribution method." I don't understand how this is relevant here. "But in this case the company must consider whether this is the best use of capital, or whether it could be better employed in a less price-sensitive market." What capital and market is it referring to here? (c) In the solution to X3.7(i)(a), "The facility to drop the minimum sum assured (for example, when death cover is no longer necessary), and the ability to surrender for the unit fund value, mean that the policy can continue as a savings contract (and into which any excess premiums over charges will already have contributed)." What does facility mean here? Also, if the policyholder surrenders, why does the policy continue as a savings contract? (d) In the solution to X3.7(i)(b), "... and the policyholder could continue with a negative fund (ie borrowing from company to pay for life cover) until the ten-year premium review, ..." Is this possible? I would think that the policy would lapse immediately. (e) In the solution to X3.7(ii), "Furthermore, if no positive non-unit reserve is needed in the first two policy years, then there may be scope to pre-fund some or all of the allocation penalties by holding negative non-unit reserves in those two years (providing sufficient surrender penalties are also in place)." What does pre-funding the allocation penalty mean?
X assignment 4: (a) Is the sentence from X4.1 solution true in general: "However, in practice the negative reserve allowance is never likely to be invoked, because the minimum surrender value under any contract cannot be less than zero, and the reserve cannot be less than the surrender value." (b) In solution to X4.1, it says: "Specifying a percentage of written premiums is a strange approach for life business, because it is not linked to the amount of risk. A method that is proportionate to reserves might be more suitable. For example, the percentage could be too big for a rapidly expanding company (especially if writing a lot of regular premium business). It could be too small for a company closed to new business, or one that wrote a lot of single premium business in the past (which is still in force)." Why does it say the premium isn't linked to the amount of risk? I would think it is since higher premium implies higher benefits which imply higher sum at risk right? Wouldn't the percentage be too big especially for a company writing a lot of single premium business instead of regular premium business? Also, for the last part, if a company wrote a lot of single premium in the past (i.e before the previous year), does this imply the solvency capital under this system would be 0? Does "previous year's written premiums" (as stated in the question) mean all the premiums received in the previous year? (c) In the solution to X4.7(i), can you kindly explain this sentence: "The question does not specify whether the measure will be retrospective – if so there could be a big problem with policyholders’ reasonable expectations for existing policies."
