Chapter 31: Other risk controls Flashcards
(19 cards)
List 4 risk management tools available to a financial product provider, other than reinsurance and ART.
- Diversification
- Underwriting at the proposal stage
- Claims control processes / procedures (underwriting at claims stage / loss-adjusting)
- Management control systems
Give ways in which risk can be diversified
- Lines of business
- Target customers
- Geographical areas of business
- Providers of reinsurance
- Investments - asset classes
- Investmetns - assets held within a class
Why might an insurance company use reciprocal QS reinsurance to diversify its risks in preference to selling a wider range of insurance contracts itself?
Marketing and selling a wide range of contracts is expensive. It also gives the insurance company the reputation of being a ‘generalist’ rather than a specialist player, which might not be the company’s desired strategy.
Reciprocal quota share reinsurance, where one company reinsures a part of another company’s business and vice versa, enables the insurance company to concentrate its marketing, sales and administrative effort on its chosen segment of the market (whilst still achieving a diversified portfolio). This should be more efficient.
What is underwriting?
Underwriting is the assessment of potential risks so that each can be charged an appropriate premium.
Why do insurers underwrite business?
SAFARI
* Suitable special terms - identification of the most suitable approach and level for special terms to be offered to substandard risks
* Avoid anti-selection
* Financial underwriting to reduce the risk of over-insurance on large policies
* Actual claims experience being in line with that expected in the pricing basis
* Risk classification to ensure that all risks are rated fairly (premium commensurate with the risk)
* Identify substandard risks, for which special terms will need to be quoted - while aiming to accept as many risks as possible on standard premium rates
What are the 3 main types of underwriting?
- Medical
- Financial (to reduce the risk of over-insurance)
- Lifestyle
Who might interpret medical underwriting information?
Medical evidence is interpreted by specialist underwriters employed by the company
List 3 factors that lifestyle underwriters may investigate
- Applicant’s occupation
- Applicant’s leisure pursuits
- Applicant’s normal country of residence
Suggest factors relating to the applicant’s normal country of residence that might influence mortality risk
- Standard of living
- diet and lifestyle
- Climate
- Prevalent diseases
- Access to medical care and the quality of care
- Levels of violent crime
- Terrorism / war risk
What is the purpose of performing financial underwriting for a life insurance contract, and what information on the applicant may be obtained in order to carry it out?
The purpose of financial underwriting is to assess whether the proposed SA is reasonable relative to the financial loss that the applicant would suffer if the insured event occurs. The aim is to reduce the risk of over-insurance.
Information obtained may include:
* The applicant’s occupation and salary
* The proposed SA selected by the applicant
* Details of other insurance policies held by the same applicant
* Whether the applicant has an insurable interest in the insured life.
List 6 possible decisions that can be made following underwriting.
- Accept on standard terms
- Reject / decline
- Deferral of cover
- Addition to premium, commensurate with the degree of extra risk
- Reduction in benefit, commensurate with the degree of extra risk
- Exclusion clause(s)
What are claims control systems?
Claims control systems mitigate the consequences of a financial risk that has occurred.
They guard against fraudulent or excessive claims.
Give 4 examples of claims control systems
- Requiring claimants to submit a claim form
- Requiring evidence of eligibility to claim, e.g. death certificate
- Requiring continued evidence of eligibility to claim, e.g. for LTCI
- Requiring estimates of the extent of a loss, e.g. by the policyholder, or a company approved by the insurer, or by a loss adjuster
Explain why insurers may encourage income protection insurance benefit claimants to make a partial return to work, with a continued benefit
This will benefit the insurer in terms of paying a lower claim amount, plus the longer-term health of the policyholders may be improved by entering active employment again. This can reduce the time to recovery from the current claim and reduce the likelihood of future claims.
Describe the 4 types of management control systems used to reduce risk.
- Data recording - the company should hold good quality data on all risks insured and on the risk factors identified during underwriting, to ensure that adequate provisions are established and to reduce operational risks.
- Accounting and auditing - effective procedures enable adequate provisions to be established, regular premiums to be collected and finance providers to be reassured.
- Monitoring liabilities - this protects against aggregatioon of risks to an unacceptable level. Also, by monitoring new business volumes, it helps ensure the provider is not exceeding the resources avalable; new business mix to monitor the risk to profitability due to cross-subsidies.
- Taking special care over options and guarantees - in particular, monitoring will determine whether the options and guarantees are likely to bite.
Outline how the investment risks associated with options and guarantees can be managed.
How should low likelihood, high impact risks be dealth with?
Where a financial institution has in its risk assessment process, identified a range of high impact but low probability risks, it will need to consider how to manage these risks. Such risks are likely to be among the most difficult risks it has to manage. They are likely to include both risks related to normal business activities and operational risks.
Low probability, high impact risks:
* can only be diversified in a limited way
* can be passed to an insurer or reinsurer, usually by some form of catastrophe insurance or whole account aggregate excess of loss cover.
* can be mitigated by management control procedures, such as disaster recovery planning.
Such risks can only be accepted as part of the consequences of the business undertaken, and the management issue then becomes how to determine the amount of capital that it is necessary to hold against the risk event.
Risk management can support and optimise the risk/return profile of an organisation by
- supporting selective growth of the business:
Establish a process for assessing new business opportunities. The process should include assessment of the risk adjusted return.
Allocate capital and other resources to business units or activities with high risk-adjusted return. - supporting profitability through risk-adjusted pricing:
Prices should reflect the cost of risk in addition to funding costs and operational expenses. - using limit setting to control the size and probability of potential losses:
Set basic exposure limits - to provide absolute limits on exposure
Set stop loss limits - limts on actual losses, which if reached, trigger management action
Set sensitivity limits - limits designed to keep potential losses from potential extreme events within acceptable bounds. - employing techniques to manage existing risks:
Active portfolio management - in essence, a company comprises a portfolio of activities each with their oen risk / return characteristics.
Reduce risk
Transfer risks to a third party.
List 5 components of the total cost of risk
- Expected loss costs
- Disruption to business
- Insurance premiums
- Risk managers’ salaries
- Other items.
