Flashcards in Chapter 25 Nature of risks (2) Deck (20):
Guarantee and options
-To calculate the cost of guarantees and options, an insurance company will use a model.
-Model, parameter and random fluctuations risk therefore occur.
-Stochastic models are usually used to model these.
-Because there would be bias in scenarios chosen under a deterministic model and probabilities assigned to them.
-health and care event are less easy to predict than their life insurance counterparts and greater care has to be taken in policy wording of options and guarantees.
-The need to compete may lead to management to take unacceptable risks. This might involve decisions to:
-reduce premium rates or charges under new business contracts
-offer additional guarantees and options under new business contracts
-increase the coverage under existing contracts
-increase salaries or commissions for distribution channels.
-arrest/constrain the future growth of charges
Actions of management
-The company's management may choose to ignore the actuary's advice concerning what the actuary views as unacceptable risk. Possible reasons for this are:
-to be competitive
-to increase the size of the business
-to maximise shareholder earnings
-to achieve personal goals of the executive
Counterparties under reinsurance arrangements
-When an insurer gets into an agreement it expects the 3rd party to meet its obligations.
-There is a risk the entity will not be able to do this.
-default on reinsurance recoveries.
Counterparties in distribution
-the risks are that the distributor may:
-commit the insurer to new conditions that were not part of the original purpose of the contract.
-delay premium or claim payments or become bankrupt
-bring the insurer into disrepute
Counterparties in provision of medical services
-There may be some loss of claims cost control and quality of service to 3rd parties.
-Under medical expenses covers and some long-term care insurance the benefit itself is provided by 3rd parties on an indemnity basis.
-This of ultimate claims cost then lies, at least to some extent, in the hands of these 3rd parties.
Counterparties in investments
-There is a counterparty risk associated with some investments that the insurer may be holding to back its business.
-This particularly relates to corporate bonds and deposits.
-The issuer of a bond may default on its obligations to pay coupons.
Other sources of risks
-Legal, regulatory and tax developments
-Internal audit failures
-aggregation and concentration risks
-Non-disclosure and anti-selection
Regulatory and fiscal developments
-Development might relate to tax, policy conditions, exclusions and premium rating for example.
-new legislation and regulation may apply to policies already in force changing the nature of contract between insurer and policyholder.
-some exclusions may be deemed unacceptable.
-quality of customer service is very important in market when product is not differentiated in terms of benefits or price.
-Where there is a higher degree of consumer market awareness or culture of consumer protection, the insurer runs a risk of losing existing client base and potential new business as a result of obtaining a reputation for poor customer service.
-this may arise through press comments or legally through courts.
Internal audit failures/fraud
-Examples of internal audit failures are leaking of information and embezzlement of funds.
-appropriate training , governance and internal audit procedures are vital.
-Examples of physical risks are fire, fire, flood, impact, loss of key staff.
-suffering IT outages due to a computer virus
-it is imperative to have business continuation procedures in hand to manage the smooth flow of business in these circumstances, including back-ups and alternative premises.
-business interruption cover but intervening damage makes proper processes and drills essential.
Aggregation and concentration of risk
-An example of aggregations/concentration of risk is the outbreaks of local illnesses.
-part of an insurer's assessment of portfolio risk will be the extent to which the insurer is over-exposed to a particular risk as a result of specialisation of a product.
-these risks are mitigated through more widespread marketing, reinsurance and through reciprocation.
-a health and care insurer is at risk from a catastrophe ie an event that gives rise to the introduction of widespread illness or injury.
-by their very nature, these are difficult to predict.
-resolution lies mainly in reinsurance or possible global expansion to spread risks.
Non-disclosure and anti-selection
-non-disclosure makes premium rating more difficult.
-the extent of this risk depends in part on whether a moratorium approach is used.
-There is also a risk that anti-selection is greater than anticipated in the pricing basis.
Anti-selection/non-disclosure: Resolution or mitigation can be achieved through?
-clearly explained sales literature
-effective sales intermediary processes
-clearly worded proposal forms
-more frequently use of doctors' reports at new business stage
-more checking of information provided
-thorough audits on sample cases
-closer dialogue between underwriting, sales and claims management.
Advancing information and genetic test come with some potential problems.
-genetic testing exposes an insurer to anti-selection if the insured has information that is not available to the insurer.
-there is the potential for illnesses to be diagnosed at afar earlier stage through such tests, leading to potential windfall payments
-increased diagnosis of early stage illnesses increase the risk of future non-disclosure for insurers.
-through genetic testing, "personalised medicine" is being developed. like to be more expensive although effective.
Product specific risks: PMI
-Main risk to insurer is that it may have limited control over the benefit payments.
-although the insurer may also impose constraints through the use of agreed fee schedule.
-3rd party control over claims
-anti-selection if underwriting and risk rating are not used, moral hazard and selective withdrawals.
-in regions where the state provides an alternative free healthcare service, the insurer is under constant pressure to remind policyholders the insurance package is preferable to the free-alternative.
-single large claims and accumulations due to no policy limits.
-capital strain even lower than CI, unless high commission. This is due to the short-term nature of the contracts.
Product specific risks: CI insurance
-for both stand-alone and rider benefits diagnosis rates, of CI specified in the contract including anti-selection.
-limited information in most markets with which to assess the likely rates of diagnosis.
-selective and normal withdrawals
-stand-alone contracts give rise to expense risk and to a lesser extent investment
-A financial risk from lapses will also arise at times when the asset share is negative.
-capital requirements will normally be low, depend on the relationship between pricing and supervisory reserving bases.