Chapter – 11
11.3 Unit linked Related Risk
1) Investment Risk
a. If all charges linked to fund value -> poor investment -> lower
expected income/ profit
i. Policyholder chooses risky assets
ii. Policyholder chooses poor performing asset
b. Marketing risk
Poor returns -> dissatisfaction -> Inc. withdrawal & lower
future sales
2) Effect of Guaranteed Charges
a. Unlimited future losses -> as it can’t increase charges
b. Become Uncompetitive on price -> due to safety margin for
adverse exp.
3) Expense Risk - Higher per policy expenses / risk of recovery of
fixed expenses
a. Selling fewer policies
b. New policies being smaller <- If all charges are prop. to fund
size
Solution – Minimum Premium condition
c. Only Short-term policies are sold -> Lapses/ shorter In-force
4) Inflation
a. Protection as charges is linked to real assets
but in the short term, income growth will not match inflation.
5) Persistency Risk
a. PR = SV – AS, initially assets share will be low due to high
initial expenses.
b. Surrender penalty
i. Relation High Initial SP vs Initial High expenses
ii. Later SP vs Profit
6) Capital /Valuation Strain Risk
a. Initial Strain -> due to higher initial expenses
b. Non-Unit reserve held due to guaranteed charges -> reducing
capital efficiency
c. New Capital Strain
7) Mortality
a. MR = DB – AS
b. MR will be lower -> as unit link contract are saving contract
c. Lower Anti-Selection -> Elderly person applies
11.4
(1) With vs without profit Annuity Contracts - Risk
1) Policy and other data
New Product -> Unfamiliarity & no past data -> lead to no pricing
experience
2) Investment Risk
a. Guaranteed Benefits – Bonuses could be reduced in with-profit
b. Asset backing outgo
c. Marketing Risk -> due to bad publicity
3) Mortality Risk
a. In case of poor performance – Low Persistency Risk in with-
profit due to ability to cut bonuses.
b. In case of good performance – High Persistency Risk in with-
profit as they have to declare more bonuses.
4) Expense / Business Volumes
a. New Product -> High developing and marketing cost -> High
exp. Risk in with-profit if business volume is low
b. Lower Impact due to ability cut bonuses
5) Competition
a. Immediate pressure in without profit due to easy comparison
b. Comparison of outgo inc. over time between with and without
profit
6) Capital Stain Risk
a. Lower Supervisory reserve required <- lower level of
Guarantee <- Less strain <- With-profit
b. Higher Capital requirement <- Higher demand of new Market
<- With-profit
(2) With vs without profit Annuity Contracts – Need of Consumer
Winner
1) Provide Income – Both
2) Degree of security and predictability – Without-Profit
3) Protection against Inflation – With-Profit
(3) With vs without profit Annuity Contracts – Using same
Assumption
1) Mortality
a. Reasonable
b. Taste and preferences: - However, Diff. type of annuity might
appeal to diff. type of people.
for e.g., with profit preferred by financially sophisticated and
higher life expectancy.
2) Expense
a. Change in distribution sales
b. Change in Commission rates
c. High expenses
i. Need to determine the amount of bonus, change
payment details etc.
ii. Initial cost of developing the product, training sales
staff, explaining the products to intermediaries etc.
3) Summary
a. Should charge higher: - bcz large margins in assumption to
reflect greater uncertainty
b. Outweighed first point as there is less guaranteed
11.5
(1) Unit linked – Principal elements
CT-5
1) Unit growth rate – Split by fund
2) Mortality rates – Split by age, sex and medical underwriting
3) Withdrawal rates
4) Expenses -Split into initial, renewal, claims and inv. exp
5) Inflation
SP-2
1) New business Volumes – split by distribution channel
2) Mix of new business – by age, sex, fund, premium size, level of
cover chosen.
(2) Unit linked – Risk
1) Investment Risk / low Unit growth
a. Lead to low management charges
i. On death before age 60 – Higher changes of loss (given
in ques)
ii. On death after age 60
1. Higher chances of Surrender
2. May be SB > DB
b. Marketing Risk -> Bad publicity or go against PRE
2) Mortality Risk – MR definition, arises mainly before age 60
a. x=300 –> Greater risk due to 3 times premium (given in ques)
b. x=100 ->
i. no medically underwriting -> chances of higher
mortality
ii. Free cover – get back money after some time
3) Expenses
a. Definition
b. Low new business volumes -> higher per policy expenses
c. Higher actual inflation
d. This impact offset by higher nominal inv. Returns and higher
charges
4) Variability of charges
a. Risk can be passed -> due to variability of charges (given in
ques)
b. Passing depends on nature of circumstances
c. Increase in charges is limited by PRE
Consequences - Risk of higher withdrawal and lower new
business
d. Delay between occurrence of increase cost and
implementation it in charges
5) Withdrawal Risk – WR definition, arises mainly after age 60
a. SV > AS –> High risk
b. SV > Value of Unit-> financial incentive
6) Lower avg. premium Size
policies being smaller <- If charges are prop. to fund size
Solution – Minimum Premium condition
7) Higher new business volume
a. Initial Capital Strain
Reserve ≥ Value of units (99% of premium) ≥ Asset share
(premium -expenses) on day 1 (given in ques)
b. Higher capital requirement – in case of higher sales