Common applications of actuarial model

Question 1

Pricing

Answer 1

o Model could be developed to determine premium or charging structure for
new product
o This premium will meet the insurer’s profit requirements
o Will be used to further monitor the appropriateness of premium rates at
regular interval in order to
▪ Check business profitability
▪ Appropriateness of rates for all groups
▪ Ensure rates remain competitive

Question 2

Meeting profit requirements

Answer 2

▪ Premiums charged can then be used to calculate the profit required
by the company
▪ Cross subsidies also generate the risk that the actual new business is
not as assumed both in size and also mix

Question 3

Competitive premiums

Answer 3

▪ Premiums or charges produced need to be considered for
marketability
▪ This might lead to consideration of :
o Design of product
▪ removal of features that might increase the risk within
net cashflows
▪ addition of features that will differentiate the product
from the competing companies
o Distribution channel used
▪ That would permit either a revision of the assumptions
made or higher premium/ charges to be used without
loss of marketability
o Company’s profit requirements
o Size of the market
o Whether to proceed with product

Question 4

Business strategy

Answer 4

o Actuary can assess capital management of writing new business
o This is done by observing the modelled amount and timing of
cashflow

Question 5

Assessing the capital requirements and return on capital

Answer 5

o The net cashflows for the model can be grossed up for the expected
new business and used to assess the amount of capital that will be
required to write the product – regulatory or economic basis
o This can then be compared with the profits expected to emerge from
the product to determine the expected return on capital

Question 6

Setting future financing strategy

Answer 6

o Models can also be sued for benefit schemes
o Setting the price of financial products is similar to setting future financing
strategy for benefit schemes
o Existing membership can be divided into categories and represented by
model points
o Financing strategy looks at determining both the amount

Question 7

More applications

Answer 7

• Risk management tool
  o Cashflow models are commonly used in risk management to determine the
  amount of capital that is necessary to hold to support risks retained
• Valuing liabilities
  o
• Valuing options and guarantees
  o Investment related options and guarantees
  ▪ These are those that are dependent on the future investment returns
  or investment value at some point in time
  ▪ Stochastic investment model should be used to assess the provisions
  necessary for such guarantees
  ▪ Stochastic models will provide information on
• Likelihood of option / guarantee biting
• The associated costs
  o Other options
  ▪ These are options not dependent on investments
  ▪ These include the option to take out insurance without underwriting
  again
  ▪ Need to consider the take up ratio of the option when modelling

Question 8

Summary: uses of models (reasons for building models)

Answer 8

• Aids in understanding
  o Vulnerability to decrements , business mix and volumes
  o Understanding capital requirements
  o Assess profitability and return on capital
• Enables decision making
  o Pricing
  ▪ Profit requirements
  ▪ Competitiveness
  o Business strategy
  o Setting future financing strategy
  o Assessing reinsurance requirements
• Summarise large and complex amounts of information
  o Valuation of liabilities
  o Valuations and pricing of options and guarantees
  o Analyse policy
  o Analyse economic movements and impacts
• Checks and controls
  o Monitoring the business
  o Assessing the risk management
  o Check on larger models