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Institute of Actuaries
EXAMINATION
5 April 2005 (am)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2005
Faculty of Actuaries
Institute of Actuaries
Discuss the possible options open to him that you would consider for your
report.
[47]
SA3 A2005
The FSA is in the process of changing the capital requirements from solvency margin
to Individual Capital Assessment (ICA).
(i)
Describe the core elements of the new proposals under the headings of ECR,
ICA and ICG.
[4]
(ii)
(iii)
(iv)
Outline the main areas that are expected to be covered in the ICA format
proposed by the FSA.
(v)
[4]
[9]
State each risk and suggest a basis for modelling each of them.
(b)
Explain, with examples, how each risk may be correlated with the
others.
[7]
(vi)
You are the actuary for a London market company writing commercial
property business both insurance and reinsurance. Describe how you would
parameterise the model of the insurance risk.
[5]
[Total 35]
END OF PAPER
SA3 A2005
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
April 2005
Introduction
The attached subject report has been written by the Principal Examiner with
the aim of helping candidates. The questions and comments are based around
Core Reading as the interpretation of the syllabus to which the examiners are
working. They have however given credit for any alternative approach or
interpretation which they consider to be reasonable.
M Flaherty
Chairman of the Board of Examiners
28 June 2005
Faculty of Actuaries
Institute of Actuaries
April 2005
Examiners Report
The examiners were generally disappointed with the majority of solutions given to this
question.
In particular there was a lot of information given in the question which many
candidates did not seem to use to form their solution. There were several references
to figures in the question which candidates did not refer to in their answers, in
particular regarding the pattern of earning of premium, and the value for money of
reinsurance.
Owing to the lack of reference to information given candidates did not gain marks for
mentioning the likely relevance of some of their options in achieving the target profit.
When candidates did mention the possibilities of meeting the target many considered
the long term rather than the short time window of the next financial year. Hence
some of the solutions suggested options which would not deliver the profit target in
the following year.
Their seemed to be very little reference to the fact that the expense action already
taken may not have been fully reflected in the profit figure and hence this was a
source of further improvement for the following year.
Some candidates seemed to be unsure what areas of the business the underwriter
would be able to influence.
Solutions to part (ii) were generally very good.
(i)
Page 2
April 2005
Examiners Report
following year the earned premium on these policies will thus be 6.25% of
that written.
The portfolio premium would need to grow by $640m.
This is a very substantial increase which may be part of the plan for this
portfolio.
But may not be previously planned and could be a tough target.
Can the individual markets/offices deliver this?
Increase in premium likely to be restricted as niche market.
Over half is written in the London Market
subscription market
therefore could increase its written lines on business.
But the company could be already writing large lines with cedants and
brokers unwilling to give Co A larger lines.
The company could also write larger risks
Could diversify the types of risks written and by channel
Would the loss ratio suffer by taking on larger volumes of business which
may not be as good quality as the existing business.
Would the acquisition costs suffer by accepting business from higher cost
sources.
Can the front office / back office cope? Would direct expenses increase to
cope with the new volume?
Will the reinsurance programme be as efficient? How does the RI
premium adjust? Will RI aggregates be breached? How does the new
volume and business mix compare to the RI submission information?
Will the terms of the RI treaty have to be renegotiated?
May breach statutory premium limits in some countries.
Requiring the injection of capital into some countries.
2.
Acquisition expenses will be different from the different sources.
Some sources will be higher than others. Some may be relatively very
expensive.
Page 3
April 2005
Examiners Report
Could cut the amount of business from the highest cost sources.
This may improve the percentage profit but not necessarily the absolute
profit
Could take a tough negotiating stand with all brokers to cut brokerage.
Which may be possible if the company dominates this niche market.
But may result in lower volumes if the brokers can place the business
elsewhere.
Restructure commission arrangements to give incentive to provide higher
volumes
However there are sensitivities regarding volume related commissions
(Spitzer)
Could push for (more) direct business with very low acquisition costs.
But again this may annoy brokers who may take business elsewhere.
Could make commissions profit related so higher commissions only paid
on profitable business.
But this will reduce the benefit of better business.
3.
Reduced over the last two years
made?
It has taken 2 years to reduce expenses by 2%, there may be some savings
in the next year from previous/current actions.
You are unlikely to achieve the full 20% improvement with expenses
alone, however a further 1% reduction in expense ratio would contribute
$2m to the required increase in profit.
Niche product, therefore specialists required in underwriting / claims,
massive savings probably not possible.
Internal expenses consist of direct and indirect, much of the internal
expense will be out of the control of the portfolio manager.
Closing an office or other drastic measure would probably not deliver the
earned profit in the required timescale
redundancy payments etc.
Page 4
April 2005
Examiners Report
Introduce new admin procedures to cut costs, but again this is unlikely to
be achievable in the required timescale.
4.
RI well used and key to smoothing profits so we expect a fairly high
recovery rate, assume 50%, but could be higher or lower.
Must reduce the net cost of the reinsurance, so take into account
reinsurance recoveries as well as the outward premium. Not buying any
RI would not reduce the costs by 17%. If recoveries average 50% then
cutting all RI would be expected to increase profit by 8.5%.
Reinsurance outward premium is $200m * 17% = 34m assuming 50%
recovery means that the cost will be $17m. Halving the reinsurance spend
will reduce the cost from 17m to 8.5m
increasing profits by 8.5m.
RI looks to be the solution to the manager s problem so we need to know
what the current arrangement is and what loss ratio it is running at.
Depending upon the insurance cycle may be able to cut reinsurance
premiums payable.
It is possible, but unlikely, that reinsurance provides a net benefit to the
portfolio.
Need to know when the RI incepts and any existing agreements
if
incepts mid year then will only be able to reduce the costs for a part year.
Long term agreements may mean that no changes are possible.
Reducing Xol reinsurance spend will increase the % volatility of the
account.
If Xol Reinsurance cover is reduced by:
cncreasing retention
reducing the limit
or retaining a self insured share across the programme
Purchase reinsurance in-house and avoid paying brokerage.
Reducing QS reinsurance spend will not change the % volatility of the
account.
Ads / disads.
This may not be what the manager is comfortable with. Manager may
prefer a less volatile / more certain result.
Page 5
April 2005
Examiners Report
Page 6
April 2005
Examiners Report
6.
Profit is measured on an earned basis. So reducing incurred claims next
year would increase profits.
Reduce margins in reserves would increase taxable profit in that year,
although this would increase the risk of reserve inadequacy.
Could be more active in claims adjusting, settling outstanding claims for
less.
This may be possible in a specialist / niche LOB.
But this should be being done already.
This may increase loss adjustment expenses.
But should be more than compensated by lower claims.
But the strategy may not be successful.
7.
Accelerating the earnings pattern of new / renewing business will
accelerate earned premium next year.
Thus accelerating earned profit.
Assuming business written to a profit.
But this can only be done once per policy.
But may not be possible in this niche Lob.
8.
Not a lot can be achieved here. Investment return is credited according to
a company allocation.
This may be achievable but is not an exercise which adds value to
company A. It benefits the manager at the expense of someone else.
Increasing this portfolio s credit would mean reducing the credit for
another portfolio.
If the total investment return is to equal that earned.
9.
Page 7
April 2005
Examiners Report
discount according to a
(ii)
Page 8
April 2005
Examiners Report
Some RI purchases may have more to do with relationships than any added
value.
2. Investment return
Not a function of underwriting so can argue should not be part of the
performance assessment.
Manager may not be taking into account currency matching of reserves
or matching by duration.
Some currencies e.g. Japan, USA have much lower interest rates than the
UK.
London Market business does not have to be denominated.
Matching investments by duration, the manager s view may be much
shorter term.
Investment managers should have their own targets, LOBs should not
benefit / suffer from any deviation from target by the investment
managers.
Managers view may not take into account the investment costs.
Or the investible percentage of funds.
The quality of investments may be different.
The company is not necessarily invested in fixed interest investments and
for the time being return on their investment return is set at a lower
notional rate but in the long term will be higher.
May be regulatory restriction for the company on what they can invest in
and this affecting the notional return.
Effect of tax on investment returns may be strict for the company than the
individual thus affecting net of tax return.
The better candidates showed that they had both read the notes and could
demonstrate an understanding of the bookwork, and that they had prepared for the
exam by reading around the subject in respect of important factors affecting the GI
industry at the moment.
The examiners were disappointed to see though that a number of candidates did not
appear to have studied the course notes on this subject.
Page 9
April 2005
Examiners Report
(i)
(1) A new risk-based enhanced capital requirement (ECR) based
on capital charges to be applied to asset values and insurance
premiums and reserves.
ECR
ICA
(3) Individual capital guidance (ICG) will be set by the FSA. ICG
is based on the FSA s own view of how much capital
individual insurers should hold, taking into account insurers
assessments of their own capital needs, risk and capital
management processes.
ICG
(ii)
Page 10
(iii)
April 2005
Examiners Report
Advantages
Risk based so assessment and framework needed so controls and systems.
Company specific data can be usetd so should be more accurate.
Company calculates so forces to assess and understand the risks in more
detail
may lead to better management.
Rigorous documentation.
Company can continuously monitor the amount they need and calculate
changes from changes in strategy i.e. buying more reinsurance changing
portfolio of business previous backward looking.
Higher level of capital may reduce insolvencies.
ICA does not penalise conservatively reserved and sufficiently premium
rated companies.
Disadvantages
Complex, difficult to model and to validate model, i.e. higher costs etc.
May not be transparent.
Different companies may take different approach to modelling
assumptions (for example tails or correlations), which may lead to
different levels of capital being set.
Need lots of data.
Even with large database some risks are very subjective for example cats
and operational risk.
Expected higher capital may put UK companies at a disadvantage in
producing returns for shareholders.
(iv)
A summary of the financial position of the firm at the time the report is
constructed and the risks to which the firm is subject.
The firm s proposal for ICA expressed as a proportion of its ECR
calculation.
Relevant historical development of the firm and any conclusions that can
be drawn from that development which may have implications for the
future of the firm.
Page 11
April 2005
Examiners Report
(v)
Market risk This risk could be modelled using an economic model that
would enable a stochastic asset valuation at the end of the period by
simulating returns for each asset type. Alternatively could use asset
movement stress and scenario testing. Such risk could be correlated with
insurance risk as dependent upon inflation. Also could be correlated to
liquidity risk for example in the case of reinsurance failure.
Insurance Risk
This risk is likely to separate catastrophe claims experience
from attritional experience. Likely to model risk in respect of claims, reserves
etc using ECM (economic capital model). Correlations with most other risks,
e.g credit risk following effect of cat claim, liquidity risk for reinsurance
failure
Credit Risk Simulate counterparty risk using an ECM stress and scenario
test. Credit risk arising from a reinsurer failure could have an impact on other
insureers leading to a market risk, and also as mentioned above could lead to a
liquidity risk.
Liquidity Risk
In this case would likely to produce a cashflow model. As
stated above this is closely linked to insurance risk if large claim occurs.
Page 12
April 2005
Examiners Report
Group Risk
In this case each part of the group would be modelled
separately, i.e. parent or subsidiaries. There is a link here with market risk if
an event takes place that affects all areas of the group.
Operational Risk
This risk is likely to occur as a result of poor management
leading to monetary loss. As such stres and scenarion testing against the risk
register is likely to be used there is a correlation with Insurance risk as bad
management could lead to high loss ratios.
(vi)
For the insurance risk need a frequency severity model. Model gross claims
and also insurance and inwards reinsurance separately. Most likely to model
attritional, large and cat losses separately. Use historic data converted to
current times allowing for claims inflation, line size change, profile of the
account and rate changes (to capture relative exposure), and insurance cycle.
This will allow an estimate of freq and severity for the large loss, and
distribution for the attritional claims. Parameters of the distributions should be
varied and parameters should be estimated by fitting distributions to the data
using goodness of fit tests. RMS or other cat modelling software can be used
for the cat part.
The assumptions should be discussed with management and the underwriters
and checked against the business plan. This gives the gross losses. Set up a
stochastic model and model explicitly any recoveries from the reinsurance
program including reinstatement premiums.
Page 13
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
6 September 2005 (am)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2005
Faculty of Actuaries
Institute of Actuaries
You are a consulting actuary for a medium sized UK general insurance company
writing personal and commercial motor, household buildings and contents,
commercial property, employers liability, public liability and professional indemnity
business. The company does not write reinsurance business and the business consists
mainly of UK risks.
(i)
(ii)
Explain why it may be necessary for this company to adjust claims data for
pricing and reserving in respect of large individual claims and catastrophes.
[8]
(iii)
(a)
(b)
In June 2002 the company recruited a new senior claims handler with responsibility
for improving the company s motor bodily injury claims reserving. Within six
months of joining the company the new recruit had implemented new claims handling
practices and had reviewed all claims larger than 50,000. The company believes this
review was responsible for significant increases in case estimate amounts.
You have been asked to review the company s personal motor reserve projections.
The methodology has been to remove claims with incurred cost greater than 100,000
from the claims triangles, project non-large claims using standard chain ladder
methodologies and include reserves for the large losses as the sum of the large loss
case estimates. You have been provided with the large claim listing shown opposite in
respect of the personal motor classes of business.
Total paid claims in respect of these large losses amount to 3,339,000 as at
31 December 2004.
(iv)
(v)
Estimate a gross of reinsurance claims reserve for the personal motor large
claims using the claims information above, including an allowance for the
future emergence of large claims in relation to expired risk as at 31 December
2004, explaining any assumptions made.
[16]
[Total 60]
SA3 S2005
1998
1999
2000
2001
2002
2003
2004
12/02/98
01/05/98
02/06/98
27/11/98
1998 total
12
125
25
89
150
120
100
459
315
155
120
175
765
315
136
120
175
746
315
136
150
132
733
315
136
150
132
733
315
136
150
132
733
350
750
102
852
750
102
852
1250
120
1370
1250
102
1352
967
102
1069
5
55
40
70
225
60
250
585
60
125
225
200
325
935
110
125
196
210
325
966
110
122
196
210
325
963
425
150
45
620
2500
120
45
2665
2500
90
150
2740
62
80
30
116
450
312
824
117
350
425
312
1204
100
25
125
130
200
330
162
13/01/99
22/04/99
1999 total
350
03/03/00
21/05/00
05/08/00
17/09/00
13/12/00
2000 total
02/07/01
24/10/01
09/12/01
2001 total
300
10
310
30/03/02
03/05/02
18/11/02
26/12/02
2002 total
02/02/03
17/02/03
2003 total
24/06/04
2004 total
All losses
SA3 S2005
400
400
162
809
1677
2493
3774
6665
7439
You are the actuary for a proprietary company, company Z, based in the UK, which
writes only treaty reinsurance business, but does not write retrocession business.
The company will consider writing reinsurance of any standard class of general
insurance business.
It currently underwrites a small (around 100) number of large treaties, both on a
proportional and non-proportional basis.
The company s senior management has requested that the monthly management
information reports provided are changed to provide clearer output upon which to
base their decisions.
The first request that has been made is to provide an index, which will illustrate the
average year-on-year change in expected profitability to the company of each contract
written, sub-divided by line of reinsurance business written.
(i)
(ii)
Discuss how you may go about constructing such an index, detailing the
following:
the issues you would consider
assumptions that you would make
the data that you would require
the limitations that you would wish to highlight to the senior management
[25]
Suggest the sorts of other management information with regards to the
underwriting and claims processes that could be usefully monitored on a
monthly basis for this type of reinsurance company.
[6]
One of the company s cedants buys an excess of loss policy with four reinstatements
from company Z, each at 100% of original premium. They have asked whether your
company can provide a form of insurance known as reinstatement premium
protection, which would cover their obligations to pay reinstatement premiums in the
event of them making a claim on the original policy.
(iii)
The original contract provides 1 million of cover with four reinstatements. The
reinstatements are for the same amount as the original contract
250,000 each.
Loadings to the risk premium make up 20% of the price actually charged.
(iv)
END OF PAPER
SA3 S2005
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
September 2005
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however
given credit for any alternative approach or interpretation which they consider to be
reasonable.
M Flaherty
Chairman of the Board of Examiners
29 November 2005
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
The examiners were generally disappointed with the answers to this question.
Although most candidates managed to answer part (i) reasonably well there were
generally very poor solutions given regarding how to deal with large claims in parts
(ii) and (iii). Part (v) was also badly answered with many candidates blindly using the
Chain Ladder method without consideration of the data available. A few candidates
could not even use the Chain Ladder correctly which is very basic methodology for GI
reserving. Ignoring the data given in part (v) and inventing own data did not gain any
marks.
The use of abbreviations without definitions does not help the examiners in assessing
if the candidate understands the issues being considered. Using non-standard
abbreviations even if definitions are given is not welcomed. The increase usage of text
speak is also most unwelcome as such speak would not be tolerated in the business
environment.
(i)
Page 2
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
Commercial property
Employers liability
Public liability
Public liability gives rise to property damage and bodily injury claims of
various sizes, including some very large ones
Likelihood will depend upon business covered, e.g. major sporting event
Claim size distribution is generally more skew for public liability than for
employers liability
Page 3
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
Sometimes public liability includes product liability cover; this can lead to
aggregation of claims (e.g. product recall)
or large individual claims (e.g. pharmaceutical products)
Professional indemnity
(ii)
Page 4
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
Reinsurance calculations
(iii)
1.
There are various different ways that large losses can be extracted from the
claims triangulations and
there are different definitions for a large individual claim
Different extraction approaches include:
2.
Extract whole of each large claim and associated history if its incurred
claim amount exceeds a certain threshold e.g. 100,000
+ Non-large claims triangulation is not distorted by part-history
of large claims
Will need to restate history of non-large triangulation each year
as non-large claims become large
So difficult to reconcile with last years data
Difficult to allow for claims currently classified as non-large to
become large
Page 5
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
3.
Once large always large => even if incurred claims for a loss falls
back below threshold, still treat as large
+ Reduces need to amend history of non-large triangulation each
year
+ Recognises the potential for large claims to become non-large
and therefore avoids over-estimation of reserves for large losses
May distort any large claim average cost analysis
4.
Only extract claim from the point that it become large i.e. history of
claim before large remains in the aggregate data
+ No need to amend history of non-large triangulation each year
May be sharp reductions in claims in non-large triangle from
one development year to next
Development factors that rely too heavily on such an instance
would result in optimistic non-large IBNR estimate
5.
Apply indexing to the large claim definition e.g. 100,000 for losses
occurring in 2000, 105,000 for losses in 2001 etc.
+ Ensures that large loss definition maintains real value over time
+ If there were no indexation, there would be very few claims
extracted from early years of account compared to later years
and this would reliability of development analysis
+ Can make definition coincide with excess point for excess of
loss reinsurance
Indexation introduces complexity
Inflation hard to measure
6.
Only extract the part of each large individual claim that is in excess of
the threshold
+ The non-large aggregate claims history does not then change
over time
+ If threshold is in line with excess point for excess of loss
reinsurance, then reinsurance IBNR can be identified more
easily
Might be harder for systems to extract the excess over the
threshold
(iv)
Page 6
Depending on exactly how the large claims have been extracted, there may
be no explicit allowance for non-large claims to become large
There is no allowance for unreported large claims
and the large claims listing clearly shows that some large claims do not
become so until 2 or 3 years after the accident date
There is no allowance for development of existing large claims
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
(v)
Although the case reserving may be stronger since the arrival of the new
claims handler, there is still potential for case reserves to increase
eg due to unforeseen deterioration in medical condition
but there is also evidence of case reserve reduction in later years as some
claims are settled favourably
Chain ladder methodologies on the non-large claims may not be
appropriate for the more recent years of account
As development factors applied may be quite large
And no use is made of exposure information such as premiums or vehicle
years
There is no indexation of large losses
General comments about the disadvantages of the Standard Chain Ladder
method
Pure IBNR
Need to allow for pure IBNR i.e. large losses not on the list but which
have occurred prior to 31 December 2004
Use an average frequency average cost approach
No details about premium volumes/size of account over time so assume
stable
Calculate current average claim numbers and average cost each accident
year correct numbers below give
From table, large losses appear to be notified within 3 years of start of
accident year
Therefore establish average number of claims in 19982002 years as fully
developed in terms of number of claims
= 3.6
But allow for fact that large loss definition has not been inflation adjusted
=> round up to 4
2003 and 2004 notifications to date do not appear out of line with this total
annual number of claims
From table, large losses appear to be mostly developed within 4 years of
start of accident year
Therefore establish average cost of claims in each of 19982001 years as
fairly fully developed in terms of cost of claims correct numbers below
give
Page 7
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
Large claim definition has not been inflation-adjusted so need to allow for
effect of inflation
E.g. at 7% for motor (or something similar)
correct numbers below give
Gives average of 599 in 2004 terms
Multiply by 4 claims to get est for 2003 and 2004
correct numbers below give
Reserve calculation
Acc Yr
No.
Av Cost
1998
1999
2000
2001
2002
2003
2004
4
2
5
3
4
2
1
183.3
534.5
192.6
913.3
301.0
165.0
400.0
Avg
Sel
3.6
4
455.9
Future
no.
1.6
2.6
Avg Cost
Ult
275.0
749.7
252.5
1118.9
344.6
176.6
400.0
733
1069
963
2740
1241
2396
2396
11538
4 599
4 599
599.0
599
This question was also generally not well answered. The level od detail given by most
candidates in the main part of their solutions fell well short of what was expected to
gain sufficient marks to pass.
(i)
Quite possible that the data does not yet exist to do this accurately
Should examine the data available and identify gaps for further review
Impact split between change in value of treaty, and change in value of
underlying
There is a requirement to allow for year on year changes in expense allocation
There is a requirement to allow for year on year changes in cost of capital
Change in value made up of price and T&C
For treaty itself T&C changes could include:
Page 8
Current incurred
Current incurred
Current incurred
Current incurred
Incurred / 0.97
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
For non-proportional
Per claim limit
Feed from pricing model or apply increased limit factors from external data
Per claim excess
Feed from pricing model or apply increased limit factors from external data
Aggregate limit
Needs explicit pricing stochastic model ideal stress test if not priced
stochastically
Aggregate deductible
Needs explicit pricing stochastic model ideal stress test if not priced
stochastically
Per event limit
Approximate adjustment based on historical catastrophe experience
Types of claim covered
Market data apply external benchmarks for new/discarded heads of claim
Territory covered
Market data apply external benchmarks for new/old territories
Term of policy
Longer inflation adjustment
Inflation clauses (e.g. severe inflation clause)
Can adjust value compared to inflation assumptions actually made
Profit commission
Calculate explicitly based upon expected results + stress test
Brokerage
Calculate explicitly as discount/load to price
Risks attaching/Losses occurring nature
Calculate approximate change in earnings profile to assess change
Reinstatement terms
Calculate explicitly using pricing model assumptions
For Proportional
Profit commission
Calculate explicitly as discount/load to price
Over-ride commission
Calculate explicitly as discount/load to price
Brokerage
Calculate explicitly as discount/load to price
Classes covered
Market data external benchmarks review expected profitability of
added/lost underlying business.
For the underlying business, changes could include
Underlying exposure volumes
Assuming price per exposure, apply multiplicative factor
Pricing of underlying direct business
Page 9
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
Page 10
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
(iii)
Page 11
Subject SA3 (General Insurance Specialist Applications) September 2005 Examiners Report
Profit (net of any additional attritional costs) remains the same with either
approach
Disadvantages of RPP approach
Increases exposure to the same risks for the company which may lead to
reinsurance exhaustion
May not be authorised strictly not reinsurance no direct insurance
contract to protect
Second contract cost of issuing lots of contracts where one would do
May not be covered under companys outwards reinsurance programme (as
not reinsurance)
Reinsurance cost may actually increase
Company may not have the choice of share of RPP as the policies may be
broked separately
(iv)
Page 12
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
3 April 2006 (am)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2006
Faculty of Actuaries
Institute of Actuaries
State how the various UK tax rules apply to Packit and the policies it sells. [3]
(ii)
Describe how the current loss should be recovered from the member
companies and steps which may be taken to reduce the size of loss.
(iii)
[16]
(a)
(b)
List the main risk factors which are likely to be used for rating this type
of business.
(c)
Describe why your chosen factors are likely to be the main factors.
(d)
Explain why some of your risk factors will not be used as rating factors.
[14]
(iv)
Describe the different ways in which differing policy deductibles and limits
requested by the different members could be priced equitably.
[4]
(v)
Describe the considerations that Packit needs to evaluate when designing next
year s reinsurance programme.
[12]
Based on recent studies you have found that the expected cost of claims to Packit is a
function of the maximum sum at risk and the selected attachment point. The
percentage of claim cost below the attachment point
= 39.81 * (attachment point * 100 / maximum sum at risk)0.2.
SA3 A2006 2
You are pricing a quote. The importer wants to reduce its insurance cost and thinks
that a total loss is unlikely. It has therefore asked for a policy which protects it for
40% in excess of 10% of its maximum exposed values.
(vi)
(a)
(b)
SA3 A2006 3
(i)
Describe the risks relating to premiums and claims that are faced by Payfast.
[5]
(ii)
Suggest steps that Payfast could take when underwriting the business in order
to mitigate some of these risks.
[6]
(iii)
(a)
Suggest the factors that would influence the earning pattern for each
individual policy.
(b)
(iv)
Describe how you would segregate Payfast s claims and policy data for the
purposes of monitoring profitability.
[6]
(v)
(vi)
END OF PAPER
SA3 A2006 4
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
April 2006
M Flaherty
Chairman of the Board of Examiners
June 2006
Comments
Individual comments are shown after each part question.
Faculty of Actuaries
Institute of Actuaries
(i)
April 2006
Examiners Report
Underwriting losses and profits are regarded as arising from mutual trading
and hence are exempt from tax.
The investment return is taxed independently.
The return from loan relationships will be taxed as income on a mark-tomarket basis, unless accounts used amortised cost.
However, with respect to equities, realised investment gains are subject to
capital gains rules and hence indexation relief applies.
No relief is given for expenses, which are assumed to be part of the mutual
trade.
VAT is not payable on insurance premiums
Insurance for commercial ships and aircraft, commercial goods in international
transit and risks located outside the UK are exempt from IPT.
Comments on question 1(i): Generally well answered although many candidates did
not realise it is the mutual trading which is the reason for no taxes on profit and also
many got IPT wrong.
(ii)
The rules may define what happens in these circumstances and therefore leave
little scope for flexibility. The rules of the mutual must be followed.
There may be a request for a special premium (effectively a capital injection)
or an explicit capital injection.
This may require that any special premium be calculated in proportion to the
capital provided, or to the insurance premiums paid in the last year.
If the loss is recovered by higher premiums in future then this may be by
adding a larger profit margin (percentage) to the premiums charged.
Or by explicitly adding an amount in respect of the loss.
The insurance premiums charged should take account of the post loss
commercial premiums. The mutual may have the opportunity to recover its
losses through higher premiums whilst still offering good value to the
members.
If the mutual were to charge much more than commercially available then
member companies would have a good incentive to purchase elsewhere
although financial obligations to the losses would remain.
In the long run this may result in the mutual being wound up.
Page 2
April 2006
Examiners Report
Page 3
April 2006
Examiners Report
Investigate T&C of existing reinsurance coverage and ensure that all possible
recoveries under all policy sections are made.
A claim may be reduced due to under-declaration of values (similar to
averaging; although this is unlikely)
The claim may be recovered out of capital or other assets set aside for this
purpose.
Investigate potential Govt/State disaster compensation.
Comments on question 1(ii):
Many candidates did not mention that there would be rules governing the operation of
the mutual. These rules must be followed. Many candidates however suggested
sensible approaches.
Salvage was mentioned in passing but given the line of business and the nature of the
loss far more should have been said. A couple of different examples would have
shown that the candidate understood the problem and was tailoring his solution. This
was especially important given the number of marks for this part of the question.
Little mention was made of the fact that the claim had exhausted the reinsurance, and
the financial impact this would have on the mutual if the gross loss could be reduced.
(iii)
(a)
Rating factors should define the risk, i.e. be a proxy for the risk factor
not correlate too closely with other rating factors
and that they are practical (simple)
Objective
Easily measurable.
Acceptable to the policyholder
Verifiable (desirable but not essential)
Each additional rating factor should, therefore, be chosen to remove as
much of the residual heterogeneity as possible.
This approach should also help to avoid having too many rating factors
and so cause practical problems due to lack of data for analysis of each
cell.
Page 4
April 2006
Examiners Report
Page 5
April 2006
Examiners Report
Policy limits and deductibles will be best dealt with by either an exposure
measure or a frequency / severity model.
Exposure based methods would be either an exposure curve or increased limit
factors.
Exposure curves describe the claim severity distribution:
this could be a loss size distribution
or may express the deductible as a percentage of the sum insured (i.e. first
loss curves)
This claim size or percentage can then be read from the curve to give the
proportion of claims cost which is retained within the deductible.
Increased limit factors work in a similar way but the limit and deductible are
looked up as factors. The factors at these amounts are then used to calculate
the proportion of claim cost retained by the deductible. (Mention of Limited
Expected Values score here.)
There may be more than one claim distribution needed to fully describe the
observed claims and therefore to calculate the equitable portion of claims
within the deductible.
Experience methods on observed historic claims for the cedant can be used but
are unlikely to give equitable answers as the observed claims are unlikely to
be a good representation of all the possible claims outcomes. (Burning cost
methods do not score as being equitable.)
Comments on question 1(iv): This question was exploring the higher skills and wider
reading of candidates. Candidates generally scored low marks on this section with
very few referring to exposure based methods (either exposure curves or increased
limit factors) or frequency/severity models.
Page 6
(v)
April 2006
Examiners Report
Considerations:
Cost of cover
following a large cat loss the cost of RI is likely to go up
following the exhaustion of the RI programme the cost will go up even for
high layers which were not purchased previously
can the mutual afford to buy the RI it would like to?
can the mutual afford not to buy and run the risk net?
Expected recoveries
linked to the cost, the mutual will want value for money
these will be evaluated by amount using both frequency and severity
May need to reparameterise frequency severity distributions following the
experienced losses
for accurate analysis.
Alternatives to traditional reinsurance
development covers etc.
Availability of cover
what cover is available following the cat
in terms of capacity (amount)
capacity may be severely restricted following a large cat
and in terms of coverage
Likelihood of a similar event
if the last event was seen as a remote event e.g. 1/10,000 years then the
mutual may not want to buy the cover
this will be location and peril specific
Exhaustion of the current programme
Vertical exhaustion
by how much?
wanting to ensure that a future loss does not exhaust the programme
Sideways cover
The number of reinstatements needed for multiple events in the same
policy period.
Level of exposure for the following year
sums insured
Page 7
April 2006
Examiners Report
Page 8
April 2006
Examiners Report
(i)
Page 9
April 2006
Examiners Report
Page 10
April 2006
Examiners Report
Page 11
April 2006
Examiners Report
Page 12
April 2006
Examiners Report
Page 13
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
11 September 2006 (am)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2006
Faculty of Actuaries
Institute of Actuaries
You are the newly appointed actuary for a small UK general insurance company that
writes liability insurance through regional UK brokers and Lloyd s. The company is
newly established having started writing risks on 1 July 2005. The professional
indemnity class of business currently accounts for most of the business written by the
company.
One of your first tasks as the company s actuary is to estimate outstanding claims and
IBNR requirements as at 31 December 2005 for the purposes of the company s yearend accounts. The company accounts for its business on a one-year accounting basis.
In addition to the company s own detailed policy and claims information, you have
decided to obtain benchmark claims development and loss ratio information from
publicly available sources. You have collected paid, incurred and ultimate loss ratios
by year of account from the UK statutory returns submitted by 10 different insurance
companies. You have selected each of the 10 companies because they present a
professional indemnity classification within their returns.
Having collected these data, you realise that it may not be appropriate to include data
relating to all of the 10 companies within your benchmarks. Your company s
professional indemnity underwriter has agreed to assist you in identifying those
companies whose data should be used for benchmarking purposes.
(i)
Suggest two main reasons why UK statutory returns are more useful than
Companies Act accounts for deriving reserving benchmarks for your
company.
(ii)
[2]
Following your discussions with the professional indemnity underwriter, you have
made your informed selection from the 10 benchmark accounts and you have
combined the information, weighted by volumes of business, to produce the following
summary table.
Accident
Year
2001
2002
2003
2004
2002 Returns
PLR
ILR
ULR
21% 88% 125%
5% 36%
91%
2003 Returns
PLR
ILR
ULR
43% 105% 123%
21%
64%
85%
7%
29%
70%
2004 Returns
PLR
ILR
ULR
85% 118% 122%
38%
76%
86%
23%
46%
65%
2%
23%
60%
Notes to table:
1.
PLR = paid loss ratio = paid claims at valuation date divided by earned
premium at valuation date
2.
ILR = incurred loss ratio = incurred claims at valuation date divided by earned
premium at valuation date
3.
SA3 S2006
The underwriter has additionally provided you with his estimates of market premium
rate changes over the past 3 years and these are shown in the table below.
Underwriting Years
2001 2002
2002 2003
2003 2004
2004 2005
(iii)
Describe how you might use the information provided in the tables above to
estimate a benchmark ultimate loss ratio for the 2005 accident year, stating
additional information that you might require from the underwriter.
[14]
(iv)
(a)
(b)
(v)
Suggest, with reasons, the extent to which you would expect to use your
company s own claims data versus benchmark information for reserve reviews
as at 31 December 2005 and 31 December 2006.
[14]
[Total 58]
Discuss the advantages and disadvantages to the new vehicle purchaser of this
policy.
[6]
(ii)
Describe risks that are likely to exist in this scheme for the insurer, suggesting
ways in which these risks can be mitigated.
[16]
(iii)
Discuss the data you will require to calculate the risk premium, including
possible sources for this information.
[14]
(iv)
State the other data or information you would consider in deciding whether or
not to underwrite the scheme.
[6]
[Total 42]
END OF PAPER
SA3 S2006
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
September 2006
M Stocker
Chairman of the Board of Examiners
November 2006
Comments
Individual comments are shown after each part question.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
(i)
These points are contained within the core reading, although surprisingly few
candidates gained full marks on this bookwork question. A number of
candidates made incorrect comments on the different levels of prudence within
the outstanding claims and IBNR reserves between the accounts and the
returns.
(ii)
Page 2
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
Page 3
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
Page 4
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
The table below is an example of how the ULRs shown in the 2004
returns may be rolled forward to 2005 terms, assuming premium rate
changes include exposure inflation.
Accident
Years
2002
2003
2004
2005
Starting
ULR
86%
65%
60%
Earned Rate
Change From
Previous Year
NA
38%
18%
3%
Inflation
Assumption
8%
8%
8%
8%
ULR in
2005
Terms
65%
63%
63%
This uses the most recent ULRs (from the 2004 returns) although these
may be prudent for the more recent accident years
A sensible claims inflation assumption might be e.g. 5% to 10%.
Select the average of the 2002 and 2003 ULRs => 64% as 2004 too
immature to rely on 2004 ULR at this stage (or other sensible selection and
justification).
We would need to understand the treatment of commission: is premium
gross or net of commission in the statutory returns?
There was a wide variation in the quality of answers for this question.
Although the question did not specifically ask for ULR calculations, the best
descriptions were those that used the data provided in the question; this
enabled students to demonstrate the various steps required more clearly.
Some candidates appeared not to have learnt from recent SA3 questions on
calculating ULRs. This is worrying given the practical use of this technique
and the importance of being able to sense-check loss ratios against the
backdrop of information on premium rate changes and claims inflation. Good
candidates were able to use the claims development information provided in
the question in order to make a judgement about which base years to use.
Some candidates went further than this part question intended and tried to
estimate the effect on the loss ratio of the company having only written
business since 1 July 2005. In these cases, the examiners gave some credit
accordingly under Q1(v).
(iv)
[Note: an alternative approach to the above calculations is to divide the PLR or ILR
by the latest estimate of the ULR in each case, rather than the ULR estimated at
previous year-ends. This approach assumes that the earned premium in the
denominator is consistent over time (i.e. no late bookings or misstatements of
premium). This alternative approach was given full credit by the examiners only if
that assumption was stated.]
Page 5
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
Development Year
1
2001
16.8%
35.0%
69.7%
44.2%
2002
5.5%
24.7%
2003
10.0%
35.4%
2004
3.3%
Average:
6.3%
25.6%
39.6%
69.7%
Development Year
1
2001
70.4%
85.4%
96.7%
88.4%
2002
39.6%
75.3%
2003
41.4%
70.8%
2004
38.3%
Average:
39.8%
72.2%
86.9%
96.7%
The numerical parts of this question were not very difficult and a lot of marks
were available for good quality comments on the results. There were many
candidates, however, who failed to gain many marks on the numerical parts or
who were not able to make observations on key features of the development
Page 6
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
patterns. Some candidates tried to adjust the data for premium rate changes,
which was unnecessary. Some candidates gave development of loss ratios
which was not requested.
(v)
Generally
One key factor is speed with which claims are expected to develop.
Would expect to move gradually from benchmarks to companys own data
as time goes on.
Perhaps using a Bornhuetter-Ferguson type of approach.
Likely to rely on incurred claims data before paid as paid will be too
immature initially.
Depends on confidence in own case estimation.
Unlikely to rely on paid chain ladder for the first three development years
as less than 40% developed.
Benchmark claim development patterns suggest that incurred claims are
reasonably mature by the end of the second development year and hence it
likely that at least some reliance would be placed on chain ladder from this
point.
Likely to recognise differences between company and market experience
earlier if company experience appears worse than markets.
Would also treat very large losses separately.
As at 31 December 2005
Only need to calculate IBNR in respect of 2005 accident year.
May want to calculate 2006 ULR to check UPR is sufficient to cover
unexpired risk.
2005 is not a typical accident year as business only written from 1 July
2005.
even if business written evenly between 1 July and 31 December, earnings
will not be even over the second half of 2005.
therefore average accident date likely to be biased towards November
rather than mid-year.
Our 2005 accident year is even less mature own claims experience
multiplied by market development factors will underestimate ultimate.
Even if use Bornhuetter-Ferguson, far bigger weighting would go to
independent (market) ultimate loss ratio than to chain ladder.
So rely heavily on market ultimate loss ratio as claims to date of little use
(except if the account suffers large losses or very bad experience).
As at 31 December 2006
2006 accident year will still not have an even earning pattern as missing
accidents relating to business written in the first half of 2005
.plus likely that business volumes still increasing over 2006 as company
establishes itself
Therefore average accident date is likely to be biased towards second half
of year.
And it will not be easy to compare actual claims developments on 2005
and 2006 accident years with those from the benchmark data.
Page 7
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
The strongest candidates understood that both the accident years would be
more immature than a typical accident year because no policies were written
in the first half of the first underwriting year. A number of candidates talked
at length about the validity of benchmarks but did not appreciate that there
was little alternative but to rely on them.
(i)
Advantages:
When an accident involving a total loss of the vehicle occurs, road risk
insurance companies will usually pay out the actual value of the vehicle.
This will usually be considerably less than the original purchase price of
the vehicle due to market value depreciation within the UK motor sales
market.
Depreciation of the vehicle market value will be particularly steep in the
first three years of a vehicles life before slowing down thereafter.
Vehicle purchasers will have financial peace of mind in the knowledge
that they will be covered in the event of accidents where they were not to
blame or driving at the time (e.g. theft of the vehicle) or involved complete
or irreparable damage to the vehicle (e.g. fire, total write-off of vehicle in a
road accident).
Road risk car insurers will not take into consideration any outstanding loan
on the vehicle purchase.
Holding gap insurance cover will assist the policyholder in paying off any
outstanding amount of the loan rather than be in a position of negative
equity.
The policy will pay out in full if the vehicle is written off by an untraced
driver or failure to pay by the owners insurance cover for another reason.
If the cover is free then this is good for the purchaser, but the cost may
already be included in the cost of the vehicle.
Premiums are known in advance in terms of level and period of payment
so will assist in financial planning (or could be regarded as an additional
monthly element to budget for in addition to road risk premium and loan
repayment).
No need to argue with the motor insurer on the value of the car.
Disadvantages:
The rates charged for gap insurance are often high.
The cover may be of limited use to a car purchaser who changes his car
frequently, e.g. once a year.
Value depends on risk appetite of car purchaser: he may not wish to pay
for something considered unlikely.
No benefit is provided if there is a bad accident but the car is not written
off.
The customer may not want to pay three years cover in the first year.
There is no value in the first year if the motor insurer gives new for old
cover in the first year
Page 8
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
The amount recovered in total from the gap policy and private car
insurance would not be sufficient to replace the car with an equivalent new
model due to price inflation.
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
The best answers to this question were those that focused on the particular
risks of gap insurance. Many candidates did not appreciate the geared impact
on claim severity of higher than expected depreciation and therefore did not
give enough attention to risk factors impacting market value of the vehicles.
(iii)
Page 10
Claims and exposure data are required for both the frequency and severity
elements.
No historic data exist for this scheme as it is new.
Internal motor data could be used to determine possible claims experience
on this scheme.
Total loss claims frequency for each of the first three years of ownership
of a vehicle could be derived from the companys motor experience if
there is a reasonable history.
This should be split down between theft, total fire/damage and flood if
data allows and is credible.
Use existing policy data to determine frequencies by rating cell (e.g. by
age/gender of customer, location, security features).
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
Some candidates discussed data required for calculating the office premium
(e.g. fixed expenses, loading for profit) which gained no credit as this question
was specifically on the risk premium. A number of candidates listed a lot of
detailed data items, e.g. those used for a standard motor insurance policy, that
would not realistically be used in this situation. The stronger candidates were
more commercial in their answers, and more realistic about data that would
be publicly available. The weaker candidates talked about using the data
from other insurers, which showed a lack of commerciality.
(iv)
Subject SA3 (General Insurance Specialist Applications) September 2006 Examiners Report
This was a fairly easy question and candidates generally scored well. The best
candidates were able to state the other ingredients in the office premium and
talk about some of the other commercial considerations.
Page 12
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
18 April 2007 (am)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2007
Faculty of Actuaries
Institute of Actuaries
You are the reserving actuary at a small UK general insurance company writing just
private household buildings and contents insurance. Having joined last year, you
have just completed your first review of the latest year-end figures. Your company
uses an annual basis of accounting and the latest financial year ended on 31 March
2007. You have been asked by the Board to provide your best estimate of the
anticipated loss ratio for the year-end accounts and explain the level of uncertainty
inherent in your estimate.
You are also aware of the following information/facts:
Gross Written
Premium (m)
Booked Accident
Year Loss Ratio
2000
2001
2006
2007
estimate
66.51
70.50
74.73
79.21
83.96
89.00
94.34
100.00
n/a
98%
102%
105%
120%
94%
95%
Note: For many years Gross Written Premium has been increasing at 6% per annum.
The policy cover was changed significantly on 1 October 2003 as follows, with
your predecessors estimate of the associated expected impact on incurred claims
in a typical year on an additive basis shown in brackets:
Excess for subsidence claims increased from 500 to 2,500 (15% reduction).
New exclusion of subsidence due to defective design / workmanship in the
first ten years (15% reduction).
Minor additions to cover (5% increase).
The various analyses you have undertaken lead you to believe that the underlying
trend in incurred claims (after allowing for prior year adjustments) has been rising
at an average rate of about 10% per annum, assuming no changes in cover.
A heat wave was recorded in August 2003, along with rainfall well below
average.
July 2006 was the hottest month on record, along with rainfall well below
average.
List the different types of reserves that you might include in your estimate of
provisions.
[3]
(ii)
(iii)
(iv)
Calculate the expected accident year loss ratio for the 2007 financial year,
detailing any assumptions you make.
[18]
SA3 A20072
[3]
(v)
Discuss:
(a)
the extent to which any assumptions you have made may not be valid
(b)
(c)
how you might seek to improve the reliability of the estimates you
make by adjusting the assumptions in (a).
[10]
[Total 38]
Megasure Group was established in Japan over 100 years ago. Its headquarters are
still in Japan and it has become one of the worlds largest general insurance and
reinsurance organisations. Although it does not write any business in Europe at
present, it has operations in many other countries worldwide. Megasure Group writes
most types of insurance and reinsurance business, although not every product is
written in every country.
Following a strategic review, Megasure Group is considering writing general
insurance business in Europe. You are a consulting actuary and have been engaged to
advise Megasure Group. You have been told that:
Initially they would like advice to help them choose between the two market entry
options above.
(i)
Lloyds
The London Market
[2]
(ii)
SA3 A20073
[8]
(iii)
2010
35
35
45
50
State the meaning of each of the abbreviations MCR, RMM, ECR and ICA
and give a brief description. Details of how these amounts are calculated are
not required.
[4]
Megasure has considered the amounts shown in Table 1. Megasure needs to transfer
capital to MICE in 2007 in order that MICE can obtain approval from the FSA to start
writing business in 2008.
(v)
Describe the factors that Megasure should consider when deciding on the
initial capitalisation of MICE. Your answer should consider each of MCR,
ECR and ICA, in addition to any other relevant factors.
[13]
In its business plan, MICE assumed it would purchase excess of loss reinsurance and
that the net cost of this reinsurance would be 1 million per year. You allowed for
this reinsurance when estimating the ICA amounts shown in Table 1. MICE has now
asked you to produce an ICA estimate assuming that no reinsurance is purchased.
Your revised estimates are shown below, together with the original estimates from
Table 1.
TABLE 2
Alternative ICA Estimates for MICE
Amounts in millions
Year
ICA if reinsurance is purchased
ICA if no reinsurance is purchased
(vi)
2008
35
40
2009
45
50
2010
50
55
SA3 A20074
List ways in which MICE can make sure it charges adequate premiums,
commenting on the practicality of each suggestion.
[9]
Following authorisation from the FSA, MICE is considering writing another line of
business in addition to commercial property.
(viii) Discuss the issues that MICE should consider before it decides whether or not
to write an additional line of insurance.
[6]
[Total 62]
END OF PAPER
SA3 A20075
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
April 2007
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
M A Stocker
Chairman of the Board of Examiners
June 2007
Comments
Individual comments are shown after each part-question.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
(i)
Advantages:
Avoids heterogeneity arising due to:
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
=> adjusted estimate for new incurred claims = 90.974m 1.2 = 109.17m.
Expected loss ratio = incurred claims / earned premium
= 109.17m / 97.17m = 1.123.
As a cross-check 1.123 seems reasonable given the trend in loss ratios given in
the question after suitable adjustments have been made.
Comments on question 1(iv): Generally poorly answered. The question required candidates
to perform a number of separate calculations and adjustments to historical estimates to
obtain a reasonable estimate of the 2007 loss ratio. Candidates who took the time to set out
their solution logically tended to identify more of the steps required and so achieve the
highest scores. Candidates were asked to detail any assumptions made. Some candidates
oversimplified the question by inappropriate choice of assumptions, e.g., assuming that
subsidence claims should be ignored, missing the effects of the policy wording or
contradicting an assumption that was stated in the question. Many candidates attempted to
adjust the 2003 and prior years incurred claims to put them on a constant basis, rather than
adjusting the later years. Although it is possible to produce a reasonable estimate using this
approach, few candidates were able to apply it successfully. In both the 2004 and 2005
accident years, some claims occur from policies written under the new conditions and some
from policies under the old conditions. Candidates who attempted to adjust only the 2003 and
prior years generally did not identify these features of the 2004 and 2005 accident year
claims.
(v)
Business may not be written evenly in the year as more homes are bought and
sold during the period April September, so policy cover is more likely to
start in this period.
It will be important to analyse historical patterns of business written to
determine a reasonable assumption.
This area of uncertainty will be particularly relevant in light of the timing of
the hot dry periods and the timing of the change in cover as this is likely to
impact the various proportions of policies on risk affected.
Mix of business may have changed.
A more granular split of data could be used, for example, separating
subsidence claims.
The level of exposure accepted may have changed over time.
Example of investigation into level of exposure.
Assumptions regarding the impact of the hot dry summers will be critical to
the estimates,
but are likely to contain significant elements of uncertainty
in particular, the effect of the 2006 summer, for which little data will exist.
It will be important to analyse the pattern of weather / subsidence related
claims before and after the dry summers to ensure estimates are as reliable as
possible,
and discuss any technical engineering issues with relevant experts.
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
Your estimates of the impact of the cover changes may contain significant
degrees of uncertainty.
Any case estimates may be a particular source of additional uncertainty.
Your assumption regarding the underlying increase in incurred claims is likely
to contain significant uncertainty.
However, it should be possible to assess a range of reasonable estimates and
assess the impact of difference assumptions on your reserve estimates.
Your predecessors estimates of the impact of the changes in cover are likely
to contain a degree of uncertainty.
However, good quality data should be available to assess the two subsidence
related items as claim amount and age of home should be available for all
homes.
May reduce uncertainty by reviewing your predecessors analyses of these
changes.
Obtaining second opinions from a peer reviewing actuary should help to
improve reliability and the level of confidence in any estimates, thereby
reducing some of the uncertainty.
Estimates can be compared to benchmarks, industry sources, etc.
Comments on question 1(v): Again generally poorly answered with many candidates
answers largely limited to repeating the assumptions listed in part (iv) and noting that each
may not be valid in practice. Some candidates produced lists of "typical" areas of
uncertainty, for example, noting that it was possible that reinsurance arrangements or
taxation may have changed. Such answers typically did not sufficiently consider the extent to
which assumptions might not be valid, areas of uncertainty and possible ways to improve the
reliability of estimates, as requested in the question. Stronger candidates generated a wide
range of points.
(i)
Define Lloyds
A society that provides a market place and regulatory framework
within which individual and corporate members may participate
in the underwriting of insurance risks on their own account.
Define London Market
That part of the insurance market in which insurance and reinsurance business
is carried out on a face-to-face basis in the City of London.
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
(ii)
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
During that time, premiums received on business written in the year are
accumulated in a fund, out of which claims and expenses are paid.
At the end of the three year period, the fund would usually be closed by
estimating the value of the outstanding liabilities and reinsuring them into the
subsequent open year of the syndicate.
The reinsurance premium for this is known as reinsurance to close (or RITC).
Once this transaction has occurred, the final result of the closing year can be
determined, as can the profit or loss attributable to each member.
If liabilities are particularly uncertain, the year of account may be left open
longer than 3 years.
(Almost all) business is written through brokers.
Lloyds writes all classes of business,
in particular special and unusual risks
and some business in most countries of the world.
Comments on question 2(ii): This was a straightforward bookwork questions. Full marks
were available for candidates who wrote brief notes covering most of the main features. The
candidates who failed to achieve a good mark typically wrote answers that contained
inaccuracies, or focussed on a small number of features of Lloyd's
(iii)
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
Comments on question 2(iii): This question required candidates to apply their knowledge of
Lloyd's and the London market set out in parts (i) and (ii) to advise Megasure. Candidates
with a good knowledge of the main feature of these markets were able to identify the key
differences that would likely be of most interest to Megasure and so scored well. A surprising
number of candidates indicated that Megasure could only invest with limited liability through
becoming a Lloyd's name. Others suggested that a London market company would not be
able to write risks through a slip system. Candidates who did not understand the markets
therefore achieved lower scores.
(iv)
Comments on question 2(iv): Bookwork, however many candidates did not know that RMM
is the same as MCR. Most candidates were able to define ICA, and many mentioned that this
was a type of capital assessment that firms made by considering the risks faced by their
business.
(v)
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
Comments on question 2(v): Poorer candidates lack of knowledge really showed here as
they were not able to write very much. Often there was a standard list of things you would
consider when deciding how much capital to hold. Better candidates tailored this to the
specific situation and demonstrated their understanding of the capital requirements
necessary now and in the future. Many candidates stated that firms should consider factors
such as the potential for accumulation of risk or large losses. Such factors would have been
considered in producing the ICA, and candidates were expected to refer to this in their
answers. Candidates who produced standard lists of factors to consider when determining
capital requirements needs without acknowledging where these were included in the ICA
generally scored poorly.
(vi)
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
There may be an alternative reinsurance strategy that would better suit MICE.
Example of alternative reinsurance strategy: purchase higher limits, purchase
more reinstatements.
Another example of alternative reinsurance strategy: purchase reinsurance
from counterparties with better credit quality.
MICE could consider securitisation/ART.
Consider the availability of reinsurance.
Consider what the regulator might think about MICE not purchasing
reinsurance.
Consider rating agency views.
Consider the views of others, e.g. the underwriter, MICE board.
Consider competitors reinsurance strategies.
Consider possible tax differences.
Comments on question 2(vi): Weaker attempts just gave standard lists, hence missing the
specifics that applied in the situation, and scored poorly. Again candidates who
produced standard lists of factors to consider when determining reinsurance needs without
acknowledging where these were included in the ICA generally scored poorly. Some marks
were available for comment on the ICA calculations, e.g. consideration of capital
requirements if alternative reinsurance was purchased.
(vii)
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) April 2007 Examiners Report
Page 15
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
1 October 2007 (am)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt all 3 questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2007
Faculty of Actuaries
Institute of Actuaries
A student has produced the following tax calculation for a UK resident proprietary
general insurance company. The company writes only UK business.
Investment Returns
Purchase price of fixed interest securities
Market value of fixed interest securities as at 1/1/2006
Market value of fixed interest securities as at 31/12/2006
Accrued investment income during 2006
Accounting
Data
500.0
625.0
620.0
25.0
145.0
30.0
55.0
60.0
2.0
Return on UK equities
Underwriting Result
Unearned premiums b/fwd
Written premiums
Unearned premiums c/fwd
32.0
45.0
100.0
50.0
DAC b/fwd
Acquisition costs paid
DAC c/fwd
9.0
18.0
10.0
20.0
56.0
485.0
60.0
475.0
10.0
4.0
3.0
5.0
72.0
10.0
Underwriting Result
Tax @ 30%
Underwriting result after tax
Student's
Calculation
151.0
45.3
105.7
Correct the students tax calculation and state the underlying principles that explain
how each accounting item should be treated. You may ignore any interim
arrangements and can assume that the accounting items given are correct.
[11]
SA3 S20072
Company A is a large insurance group with worldwide operations. One of its small
subsidiary companies, Company B, is a UK company that started writing international
property and liability reinsurance business in 1950. Company B took the decision to
pull out of the US reinsurance market in 1980 and since then has focused on writing a
small and very profitable European property reinsurance book. Company Bs
discontinued portfolio currently consists largely of US Asbestos, Pollution and Health
Hazard (APH) liabilities. In recent years, Company A has needed to inject more
capital into Company B following reserve deteriorations on the US APH liabilities.
The technical reserves for Company B are established on a discounted basis.
The Board of Company A is currently considering selling Company B in view of
Company As worldwide strategy to focus on writing direct business.
(i)
Describe the major areas of risk facing Company A in respect of the APH
claims liabilities of Company B.
[7]
(ii)
(iii)
[5]
Case
reserves
Asbestos
Pollution
Health Hazards
Subtotal
Claims handling expenses
Total
12.8
12.1
1.0
25.9
Annual
Average Paid
(last 3 years)
2.7
4.5
0.8
8.0
1.0
9.0
34.5
19.8
1.8
56.2
2.5
58.7
48.8
29.7
2.5
81.0
3.8
84.8
Company Bs assets have produced investment return averaging 4.2% per annum over
the last 3 years.
(iv)
(v)
(a)
Estimate the discounted mean terms of each claim type on each of the
Best estimate and High estimate bases.
(b)
(vi)
[5]
[9]
Set out the challenges that you would make in regard to the numbers in the
table above when assisting Company C in its initial price negotiations for this
portfolio.
[9]
[Total 45]
SA3 S20073
You have recently joined a large general insurance company and you are determining
the reserves for a portfolio of business in the first quarter of 2007, using annual data
as at 31 December 2006. The company business plan for the 2004 year shows a
planned ultimate loss ratio of 85%. The company stopped writing this portfolio at the
end of 2004.
You have the following summary information readily available:
Underwriting Years
2000 2001 2002 2003 2004 2005 2006
Premiums million
Reported loss ratio
Basic chain ladder
ultimate loss ratio %
Booked ultimate loss ratio %
A priori * loss ratio %
Mean term of paid claims
In years
Development year
Age to age factors n to
n + 1(reported claims)
17.2
87.0
90.5
17.4
82.0
93.0
17.6
69.0
90.0
18 20.1
50.0 34.6
91.0
91.0
4.0
93.0
93.0
89.6
89.6
92.0 85.0
92.0 85.0
10.00
3.00
1.80
1.40 1.15
1.09
* a priori in this context refers to the initial estimate ultimate loss ratio used in the
Bornhuetter-Ferguson calculation
As part of your review you investigate other sources of information. You discover
that:
A company pricing database shows that the average rate change across policies in
2004 is minus 10%.
The ex-underwriter of the account tells you that he feels that rates were showing a ten
to fifteen percent reduction and that some policies had wordings which gave wider
coverage than in previous years.
(i)
(a)
(b)
(ii)
(a)
Derive three alternative a priori loss ratios for use in the BornhuetterFerguson method for the 2004 year.
(b)
SA3 S20074
(iii)
(a)
State the concerns that you would have with the 2004 initial a priori
loss ratio and the new a priori loss ratios you have derived in part (ii).
(b)
[9]
The company finance director tells you that it has always been company
practice to use the budgeted loss ratios in the Bornhuetter-Ferguson
calculations. He has seen your table of results and states that the BornhuetterFerguson method is not credible as it can give any result that you may want.
He tells you that he intends to use the ultimate claims using the budgeted loss
ratio in the Bornhuetter-Ferguson calculation.
(iv)
(v)
[5]
(a)
Select one a priori ultimate loss ratio for the 2004 year and calculate
the increase in reserves needed if the company changes its a priori loss
ratio to your figure and
(b)
[2]
(vii)
Explain the risks to the ceding company of reinsuring this portfolio and the
risks to the reinsurance company of writing this portfolio and explain what
each company can do to mitigate its risks.
[9]
(viii) State with reasons whether you think that such a policy would be appropriate
in this situation.
[3]
[Total 44]
END OF PAPER
SA3 S20075
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
September 2007
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
M Stocker
Chairman of the Board of Examiners
December 2007
Comments
Individual comments are shown after each part-question
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
1
Investment Returns
Purchase price of fixed interest securities
Market value of fixed interest securities as at 1/1/2006
Market value of fixed interest securities as at 31/12/2006
Accrued investment income during 2006
Corrected
Calculation
500.0
625.0
620.0
25.0
30.0
55.0
60.0
2.0
7.0
Underwriting Result
Unearned premiums b/fwd
Written premiums
Unearned premiums c/fwd
45.0
100.0
(50.0)
DAC b/fwd
Acquisition costs paid
DAC c/fwd
(9.0)
(18.0)
10.0
(20.0)
485.0
(60.0)
(475.0)
(10.0)
0.0
(3.0)
0.0
(63.0)
(10.0)
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Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
Technical Result =
{Fixed interest return} + {Equity Return} + {Net Earned Premiums}
{Increase in paid claims and claims provisions paid} =
20 + 7 + 58 63 10 = 12
of which no further tax due on dividend income
2.0
Taxable result = 12 2 = 10
Tax @ 30% = 10 0.3 = 3.0
Underwriting result after tax = 12 3 = 9.0
Alternative solution:
Gross Earned Premium
Less Earned RI
Net Earned Premium
Incurred Claims
Allowable Expenses
Increase in DAC
Underwriting result
Taxable fixed interest return
Taxable return on equities
Equalisation reserve provision
Taxable result
Tax @ 30%
Franked income from equities
Technical result after tax
12.0
10.0
(3.0)
9.0
100-(50-45) = 95
(20)
= 75
485-60-475 = (50)
31
1
= (5)
20
5
(10)
= 10
(3)
2
=9
Investment Return
From Bonds or Loan relationships is taxed on the total returns whether
realised or unrealised. The bonds are valued on a mark to market basis.
Dividends from UK equities are not taxed further. Gains are taxed on a mark
to market basis.
Underwriting result taxable as follows:
Earned Premiums (net of RI), so unearned premiums net of DAC tax
deductible
Expenses are tax deductible (acquisition costs, running costs of the business,
)
Less claims handling expense provision is allowable to the extent that the
expenses relate directly to claims for which claims provisions have been
accepted by HMRC.
Less paid claims
Less change in o/s claims carried forward supported by case estimates or
statistical projections
Change in IBNR subject to justification
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Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
being potentially volatile). Statutory rules govern the calculation of transfers to the
Reserve (which are tax deductible) and transfers from the Reserve (on which tax is
payable).
Provisions for future catastrophe losses are not allowable except where required by
law
Comments on Q1. The template given should have guided the layout of the answer
required. A minority of students followed this template and scored well. Those who
chose their own format often made mistakes and the answers were harder to follow.
Most candidates showed a reasonable grasp of the basics concerning equities and
bonds returns and made a decent effort at correcting the calculation. However, very
few candidates made many sensible comments on the principles of taxation ( e.g.
IBNR is deductible only subject to justification, change in outstanding claims is
deductible provided that supported by case estimates or projections) so very few
candidates scored highly on this question.
(i)
APH risks
Claims reserves very uncertain because APH liabilities are long tailed due
to long latency period (could be inadequate)
Liabilities stem from early years when policy records may be incomplete:
difficult to assess full extent of exposures
Liabilities increase leaving the reserves inadequate due to: (need reason)
Risk of legal judgements increasing liabilities
Change to regulatory environment
Risk of new latent diseases emerging thus increasing liabilities
Propensity to claim
Claim inflation higher than expected
Gearing for RI policies
Risk of accumulations
Risk around the value of the discount within the discounted reserves:
+ Timing of claims payments is uncertain can be difficult to assess
cashflows
+ May not achieve return on assets implied by discount rate.
Currency risk if liabilities not matched
Mismatching of assets and liabilities
Risk of disputes and bad debt on outwards reinsurance given the age of the
liabilities
Claims handing cost could be higher than expected (for various reasons,
legal, cost of specialist handlers etc)
Page 4
Benefits of sale
Removes risk of further reserve deterioration on APH
More stability (less volatility)
No longer distracts Company A management from ongoing business
frees up resources (future strategy)
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
Alternative options
Part VII transfer to external company (or, alternatively, for Loss Portfolio
Transfer and Novation)
+ legal liability transferred
+ so employee and shareholder rights not affected
+ may improve the sale terms of Company B
+ can transfer to specialist APH run-off company
+ dont have to transfer non APH policies
need to get regulatory/court approval which can be time consuming
possible reputational risk
will need to commission an independent expert to opine on
policyholder protection
this could be expensive
Proactive commutation of policies
+ does not normally require regulatory approval
+ opportunity to make profits on individual policies
can be time consuming and needs senior input
will be impractical to commute all the policies and unlikely to be able
to remove all exposures this way
Scheme of arrangement
+ Can achieve finality
+ Do not have to get agreement from every policyholder
May be reputational issues for Company A if scheme fails or seen to
be unfair
Can take some time to set up
May not have expertise in house to plan or execute
Comments on Q2(iii). This was poorly answered. Many candidates gave answers that
either would not remove the liability from the company (e.g. ring fence within company)
or were very unlikely to be realistic or practical. Those candidates that did suggest a Part
VII transfer or a scheme of arrangement often did not give sufficient further detail. The
wording of many candidates answers gave the impression that the portfolio could be sold
and all associated capital would be released. If such a transfer were to take place then a
premium over the reserves will almost certainly be paid and this could be greater than
the capital held. Loss portfolio transfers answer the question correctly only if they
transfer legal liability. In the UK this is called a Part VII transfer, other legislation
existing in other counties.
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Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
(iv)
Benefits of acquiring
Comments on Q2(iv). Most candidates did not give enough weight in their answers to the
benefits of scale, expertise and bargaining power of a specialist company taking on this
portfolio.
(v) (a)
(b)
Reasonableness:
Asbestos DMT higher than others reflecting longer latency period of asbestos
Some of pollution liabilities relate to clean up costs, which are not bodily
injury claims so slightly shorter than asbestos
Pollution mean term could be a bit short
Pollution best = high could be an error (or other sensible comment)
Health hazards DMT would depend on claim type but expected to be shorter
tail than asbestos
Health Hazard estimated DMT seems too low: may be error
Health Hazard is more dependent on latent claims (IBNR) as low ratio of paid
claims to case reserves therefore expect a bigger difference between best DMT
and high DMT
Asbestos High DMT > Best DMT
Page 6
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
Challenges
Comments on Q2(vi). Candidates missed many obvious challenges in this question and
most did not consider calculating survival or IBNR to outstanding ratios
Page 7
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
(i)
development year
Age to age factors n to
n+1(reported claims)
Age to ult factor
10.00
3.00
1.80
1.40
1.15
1.09
1.03
1.01
1.00
1.01
1.00
1/cumf
1 - 1/cumf
0.304 0.548
0.696 0.452
= 50 1.826
= 50 + 0.452 92
= 34.6 3.286
= 34.6 + 0.696 85
= 91.3
= 91.6
= 113.7
= 93.7
Chain ladder does not take account of prior expectations and therefore projects the
ultimate without adjustment.
2003 91.6 because a priori loss ratio in line with experience
2004 113.7 because a priori not in line with experience
It is the same as using the bf method with an a priori ultimate of 113.7%
The BF method is credibility weighted to take account of prior knowledge.
BCL could be distorted by one or two large claims hence big difference
If the a priori estimate is closer to the real ultimate then theBF method will give a
more accurate result and vice versa
Which means that great care needs to be taken in selecting the a priori estimate.
Comments on Q3(i). All candidates should have scored full marks for the technical part
of the reserving calculations. However, some candidates did not appear to know how to
perform a BF calculation and others calculated it in a very inefficient way thus wasting
valuable time. Also basic errors were made by some candidates.
(ii)
(2003 and 2004 booked starting points given in the table below. 2003 is a
better starting point given the implausible 2004 number. There are other valid
starting points including prior year basic chain ladder estimated ultimate loss
ratios.)
(Increase in reserves shown here for part v calc)
There are alternative starting points e.g. 2003, BCL.
Correct application of rate reductions:
Calculation of ultimates:
Clear tabulation of results
Page 8
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
a priori LR bf ult
using 2003 as a base
with 10% rate reduction
with 15% rate reduction
with 20% rate reduction
with 30% rate reduction
increase in
reserves from bf
ult of 93.7
(using an 85 a
priori LR)
increase in
reserves
from 85%
booked
loss ratio
92
92
92
92
--->
--->
--->
--->
102.2
108.2
115.0
131.4
105.7
109.9
114.6
126.0
2.41
3.25
4.20
6.49
4.16
5.00
5.95
8.25
85
85
85
85
--->
--->
--->
--->
94.4
100.0
106.3
121.4
100.3
104.2
108.5
119.1
1.32
2.10
2.97
5.09
3.08
3.85
4.73
6.85
Comments on Q3(ii). Almost all candidates were able to select three ratios for use in the
BF. Some candidates were happy to select unhelpful a prioris (ignoring information
given) or made selections which were near-identical (e.g. comparing a volume weighted
average with a simple average) missing the much greater uncertainty in other
assumptions. The better candidates recognised that the key issue is one of uncertainty and
calculated a range of a priori estimates accordingly. Mistakes were often made in the
calculation of rate change impact. The better candidates recognised that there may well
be claims trend in addition to the rate weakening. Many candidates dropped easy marks
for not tabulating the results as instructed.
(iii)
Page 9
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
(iv)
It is true that the BF method relies heavily, even critically, on the a priori
estimate which is a strength if the a priori is chosen well and a weakness if
chosen badly.
Indications are that the selected a priori estimate needs revision as evidenced
by
the high reported loss ratio for a year at the end of 36 months
the rate reduction estimates in the database
and from the underwriter
The company should be trying to book best estimate results which means
using the best information available and should take precedence over an
established practice which in this instance looks like it is not giving a good
solution.
Comments on Q3(iv. Most candidates made some reasonable points in discussing the BF
reliance on its a priori. However, few candidates stated clearly that reserves should be
calculated as best estimates using the most up to date information. Most candidates gave
a general description of the BF method and failed to tailor their answer to the specific
circumstances given in the question and thus missed many easy marks. There was
significant misunderstanding of what independent means in relation to the BF method.
Page 10
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
A commonly held incorrect view was that no information derived from the year in
question could be used. Rate changes, claims inflation, wider wordings and increasing
premium volume are all independent and should be used in determining a best
estimate a priori.
(v)
Comments on Q3(v). Most candidates were able to calculate the reserve deterioration
but very few considered paid claims and therefore the likely impact on unpaid claims.
Further a surprising number of candidates did not pick up that for a large company this
deterioration in itself is unlikely to be significant.
(vi)
Page 11
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
Mitigated by:
Negotiating the lowest premium possible
Retaining the minimum possible share
Spreading the ceded risk amongst several reinsurers
Using only top credit rated reinsurers
Risks to the reinsurer
Underwriting risk takes on a risk which is worse than anticipated at too low
a premium
Timing of claims happens inside the covered period
Legislation/judicial decisions/interpretation mean that the original policies
have wider coverage than expected, and hence claims more than expected.
which may accumulate with other risks that it has.
There may be significant latent claims in the portfolio.
Currency fluctuations could make the claims larger than expected
Invested assets may perform worse than assumed in any calculation of
premiums.
Moral hazard from the cedant, manipulating claims payment/reporting to fall
within the policy period.
Mitigated by:
Thorough analysis and investigation of the policy and claims files
Purchasing reinsurance
Careful monitoring and limiting of aggregates
Hedging of currency
Diversification of assets
Participation clause
Increase profit margin
Claims audits to verify no changes in claims procedures.
Comments on Q3(vii). Most candidates gave reasonable answers, but only identified a
few of the risks to the reinsurer.
(viii)
Page 12
I would not think that buying this policy would be appropriate in this instance.
(or clear statement of opposite opinion)
All years except for 2004 seem to be running off to the recognised pattern
With the exception of 2004.which will attract more scrutiny and a higher
premium anyway.
The total reserve size is small and any adverse development is likely to be
much smaller
Subject SA3 (General Insurance Specialist Applications) September 2007 Examiners Report
So unless the companys solvency is very tight this does not look like a good
option as the company will be ceding profit and paying brokerage when the
company should be well able to pay the claims without reinsurance.
Comments on Q3(viii). Many candidates answered this well. However some lost marks
by not stating a clear preference on whether the cover is appropriate in this case.
Page 13
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
14 April 2008 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2008
Faculty of Actuaries
Institute of Actuaries
You are the actuary responsible for estimating the reserves for a large UK general
insurance company with several lines of business. Below is the gross claims
development for the public liability class of business and your estimates of the gross
ultimate claims at year end 2006.
Figures in 000s
Policy
Year
2002
2003
2004
2005
2006
4
5,691
5,649
8,652
10,428
11,513
Notified Claims
Development Quarter
8
12
16
10,256
11,956
11,421
3,146
3,265
3,684
11,423
10,875
23,453
20
11,565
Figures in 000s
Year End Year End Estimated
Policy
Notified
Paid
Ultimate
Year
Claims
Claims
Claims
2002
11,565
7,716
12,409
2003
3,684
2,431
4,265
2004
10,875
3,898
13,285
2005
23,453
3,596
38,202
2006
11,513
1,006
35,125
Total
61,089
18,648
103,286
At year end 2006 you estimated the following range of gross ultimate claims for this
class of business:
65%
105,352
95%
146,666
The underwriter for this line of business calls you to explain that policies are written
on a claims made basis and have been since 2002. He is worried that you are not
taking account of this in your projections as you seem to have significant IBNR in
prior years.
(i)
[1]
(ii)
List the advantages and disadvantages to an insurer of this type of wording. [3]
(iii)
Outline the points that you would make to the underwriter in explaining your
estimate of ultimate claims in prior years.
[4]
(iv)
Explain whether the actuary responsible for reserves should provide a range of
estimates in a reserve report.
[5]
You estimated the range at year end 2006 using scenario testing and your judgement.
(v)
SA3 A20082
You have been asked to consider two further ways of deriving a range: Bootstrapping
and Macks method.
(vi)
Describe each of these methods, giving its advantages and disadvantages. [14]
You now have six additional months of data. The latest notified claims and your new
estimated ultimate claims as at 30 June 2007 are as follows:
Figures in 000s
Policy
Notified
Year
Claims
2002
11,565
2003
3,774
2004
10,848
2005
50,910
2006
14,542
Total
91,640
Estimated
Ultimate
12,409
4,350
13,030
65,687
41,256
136,732
the ultimate level is inconsistent with the range that you provided at year end
2006.
this might have a significant impact on the companys ICA.
(vii)
[10]
You have been asked by the finance director whether this is a sufficiently profitable
line of business following the change to the claims made basis as from 2002.
(viii)
Outline the points that you would make to your finance director and detail any
further information that you might require.
[18]
[Total 59]
SA3 A20083
Rapidco is a large industrial company based in the United Kingdom. The company
has seen rapid expansion over the past ten years, doubling its output through
automation of key processes while keeping its workforce at similar levels and
increasing the number of manufacturing sites it owns by over fifty percent.
You are an independent actuary engaged by the companys directors. The directors
believe that the company has a very low reported claims record over the past ten
years. They believe that the insurance premiums are too high as they are paying their
insurers standard book rates with the exception of the fleet portfolio which is
experience rated. Its main other insurances are predominantly commercial fire,
business interruption, employers liability, public liability and goods in transit. The
company does not buy product liability cover.
(i)
Discuss the features of past loss experience and exposure that you would need
to consider in advising the companys directors on its insurance premium. [18]
[2]
(iii)
State the advantages and disadvantages to the group in setting up this captive.
[6]
You have been asked to advise on:
(iv)
END OF PAPER
SA3 A20084
Faculty of Actuaries
Institute of Actuaries
M A Stocker
Chairman of the Board of Examiners
June 2008
Comments
Individual comments are shown after the solutions to each part question that follows.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
(i)
A claims made policy is one that covers all claims reported to an insurer
within the policy period irrespective of when they occurred.
Comments on Question 1(i): Bookwork question with most candidates scoring well.
(ii)
Although all claims have to be reported within the exposure period of the
policy, this does not mean that they will be paid within this period so
uncertainty remains
Most annual policies will still have exposure after end of year
There may be policies for longer than one year
or binders/lineslips meaning further claims possible after more than one year
Claims could re-open
May be options for extension of notification period
Might expect more notifications to come late in the policy term
IT delays may cause further delay
There may be little information available on a claim / notification of
circumstance when it is first reported, so it may be difficult to set up an
appropriate reserve
This could be especially true where companies laundry list claims
attempting to ensure that all potential incidents which could lead to a claim
(however unlikely) are reported to the insurer so that they would be covered
under the claims made trigger
The claims made trigger has been in place for some years, and there are
increases in incurred claims in years 4 and 5 of development
Public liability covers damage to 3rd party property and bodily injury claims.
The latter can be subject to a high degree of uncertainty and may take a long
time to settle
Page 2
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
recent year even though the basis is "claims made", and used the data provided to
demonstrate the need for IBNER.
(iv)
Range requirement
Reserve report likely to be formal in GN12 terms
GN12 states that report should normally indicate the nature, degree and
sources of uncertainty surrounding the results
and sensitivities to key assumptions
Uncertainty should normally be quantified where practicable
but otherwise should normally be reported using an appropriate descriptive
summary
This would suggest that it might be necessary to provide a quantitative range
of reserves in order to be compliant with Institute guidance except where
impractical when a description might suffice
Consider GN50 which states that uncertainty surrounding advice or opinions
formed must be considered and communicated appropriately
The less likely the audience is to appreciate the importance or extent of
uncertainty the greater is the need for this to be communicated
In this case the audience may be unlikely to appreciate extent of uncertainty
without some quantitative calculation e.g. a range
Comments on Question 1(iv): Most candidates mentioned GN12 and some of the
advice therein. Few candidates demonstrated full knowledge of the relevant parts of
GN12 and GN50. Better candidates identified the need to consider communication in
the context of the audience of the report.
(v)
Comments on Question 1(v): Many candidates scored well here. Better candidates
went beyond general comments such as "easy to do" (which is far from clear!) and
gave opinions as to which aspects might require specialised judgement and the
associated difficulties.
Page 3
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
(vi)
Bootstrapping characteristics:
A method of estimating the parameter uncertainty surrounding an estimate of
the reserves
To estimate process uncertainty need to use in conjunction with e.g. Mack or
over-dispersed Poisson model
Estimation achieved by repeated re-sampling with replacement from the
historic data to produce a large number of alternative pseudo-data sets
consistent with the original data.
Each of these alternative data sets is projected using the chosen projection
method to give an alternative reserve estimate for each re-sampled set of data
By repeating this process thousands of times we can generate standard
deviations, confidence intervals
Can be applied to paid or incurred data, and accident year or underwriting year
cohorts
Open to manipulation
Bootstrapping- pros/cons
+ Easy to apply for most datasets
+ customisable
- No allowance for tail factor
- Basic method very restrictive in terms of how development factors are
selected
+ however method can be applied to subjectively derived development factors
Macks Method characteristics:
An analytical method based on the chain ladder for estimating the uncertainty
inherent in the reserve estimate for a given accident or underwriting year
A standard chain ladder method is applied to the cumulative triangle to
determine the incremental development factors.
Variability between the actual and expected development at each point in the
triangle is calculated.
Then the variability across the rows is aggregated to produce a standard error
for each accident/ underwriting year
Can extend to derive a standard error of the overall reserve estimate
However, if percentiles are required, in order to produce a range, a distribution
needs to be assumed via a deterministic calculation or bootstrap approach
Based on chain ladder so assume underlying chain ladder assumptions
appropriate
Can be applied to paid or incurred data, and accident year or underwriting year
cohorts
Macks method pros/cons
+ No assumption of prior distribution
+ A tail factor can be incorporated as a deterministic multiple
-Limited judgement possible
Both methods pros/cons
+ Require few assumptions
Page 4
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Market risk
Liquidity risk
Group risk
Might impact ICA if change not because of volatility but e.g. legal ruling
Comments on Question 1(vii): Many candidates failed to answer the question as
they did not specify whether they agreed with the comments. Some also did not
explain the significance of other influences on the ICA.
(viii) Observations
Loss ratio is volatile over time
Varies from 36% to 260%
Loss ratio for 2006 should be treated with caution however as at an early stage
of development
Last 2 years it is significantly above 100% suggesting unprofitable
Consideration of non-claim elements (expenses, investment income highly
unlikely to compensate for loss ratio > 100%)
But potentially a large claim in 2005 distorts numbers
Trend in loss ratio appears to be upwards
Since this is associated with increasing premium volume this is a particular
concern
Might be growing book by offering lower rates
Or trying to expand book in soft market
Or antiselection / competitor rating
Claims made features
Business written in early years might be from clients moving from loss
occurrence to claims made
In this case early years might have low exposure to claims (due to slow
emergence of claims so few claims reported which do not trigger prior
insurance)
As account matures there is a full pool of earlier years generating claims
so greater number of claims trigger claims made policy
If these features are not appropriately allowed for in the pricing, a worsening
profitability trend might be observed
Further information
Need further information before any strong conclusions
Knowing the reinsurance structure for the class and the reinsurance spend/
recoveries in past is crucial
Net loss ratio could be much lower due to e.g. excess of loss protection
But if this is the case reinsurance premium likely to increase in future
Need benchmark profitability requirement e.g. X% ROE over market cycle
Must estimate the capital required for business
Taking account of diversification
Investment income estimated
e.g. based on mean term from payment pattern
and interest rate
Expenses investigation required
At least estimate of expense ratio
Page 6
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
(i)
Some of the classes of insurance will have seen claims experience change in
character over the last ten years because of the companys expansion. Others
will have only been subject to moderate change.
If there have been no claims, it will be difficult to allow for changes in
exposure
Commercial Fire
The number of sites has increased by over 50% over the past ten years,
implying that the latest claims experience arising from exposure now may be
very different to that of ten years ago.
There may have been a number of site sales and acquisitions over the period,
adding further exposure changes and therefore impacts on claims experience.
There may have been changes in other risk factors.
Example of other change in risk factors, e.g. age of buildings different
Page 7
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
As the business has expanded, productive use per unit floor space has most
likely increased.
Need to consider the number and amount of gross losses per location over
period
And sum insured
Review of sum insureds over 10 year period
Consider relevant rating factors
Key aspect in the past claims experience will be whether or not any large
single fire losses have occurred during the past ten years.
Unless the company has been unlucky with large losses during period, the
claims experience will most likely be very low and not take into consideration
the additional premium to charge for expected large losses.
Do any market statistics exist on much greater size portfolios of similar
exposure mix with more credible large loss experience?
Is the cost of small claims abnormally low?
If it is then justifies a lower premium rate
Are there particularly good safety procedures in place?
Does the type or age of construction of the buildings warrant a lower or higher
premium than a traditional book rate?
Change in socio-economic factors
Business Interruption
A loss of this kind is only likely to occur after a major or total loss as the
company may well now be potentially large enough to have business
continuity plans in place.
Therefore premium may look high in relation to past claims
Furthermore, if a claim does occur now, it is likely to be much greater now
than it would have been ten years ago because of far greater output.
Existing claims experience is unlikely to be adequate to be able to use in
isolation for assessing a suitable premium rate.
Specialized machinery requiring a long lead time for replacement could
increase potential risk.
Exposure measure turnover / profit
which could be volatile
Consider relevant rating factors
Employers Liability
If the exposure available was over a long period, with stability in numbers of
employees and working conditions, the companys own experience may well
be a good guide for small claims
E.g. payroll may be used as an exposure measure.
Analysis of clerical versus manual payroll
Consider relevant rating factors
However, regard must be made to the chances of unsuspected industrial
disease claims such as deafness or vibration white finger.
10 years is insufficient to establish the potential for such latent claims
It may also be necessary to allow for the presence or absence of any abnormal
claims or accidents to several employees at the same time.
Changing environment and technological progress may also have an impact on
claims experience.
Page 8
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Awareness of health and safety issues might have improved claims experience
Greater productivity per employee may imply a higher real salary than ten
years ago, as more responsibility is placed on individuals. This may result in
much larger claims now than ten years ago.
Public Liability
Exposure measure turnover
Consider relevant rating factors
This is likely to cover mainly premises risks.
Also external factors such as environmental exposure
The number of premises has doubled over the past ten years and with floor
space increasing and potentially a greater number of third parties visiting each
premise, the experience now will be very different to that of ten years ago.
Changes in internal environment may impact on claims experience.
Claims experience may have been very light during the ten years particularly
for large losses.
It will be important to analyse trends in claims experience compared with the
number of premises or other exposure measures such as turnover.
Goods in Transit
Acceptable exposure measure e.g. sum assured
Consider rating factors e.g. distance travelled, frequency of travel, hub in
travel, methods of transport
Lots of new premises might mean more internal shipping rather than external
shipping
Past experience should be a reasonable guide unless rating factors have
changed significantly
Fleet
Vehicle year as exposure measure
Consider relevant rating factors
The experience over the past ten years should be a good guide as the
workforce has been stable and therefore the number of vehicles should be
broadly similar.
Key issue will be how the mileage per driver has changed over the past ten
years.
Are vehicles travelling much greater distances now as a result of road
improvements or has the company been using alternative forms of transport
such as rail, shipping or air?
Has changed manufacturing processes impacted on the type of transport used?
Ideally consider losses broken down into vehicle type
Are larger vehicles being used now compared to ten years ago?
Different drivers to previous years
Need to consider losses split into physical damage and bodily injury due to
different level of inflation
Large claims will need to be truncated at a certain level to remove abnormally
large claims with suitable adjustment for a long term allowance for large loss
derived from a number of years data within the premium rate calculation.
Page 9
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Page 10
Advantages
Rather than passing insurance profits onto external insurers, the company
retains these.
This could therefore further improve the profitability of the groups accounts
on a consolidated basis
Could also benefit from further profits by selling products to customers of the
company e.g. warranty
Promotes greater awareness to senior management of managing risk within the
company rather than passing to an insurer.
A captive may pass on good experience and risk management improvement
savings through lower premiums quicker than an external insurer
Direct access to reinsurance markets and expertise.
Or obtaining cover that cannot be obtained by a direct insurer.
Assists in negotiating desired cover, terms and conditions with reinsurers
There may be tax advantages if located in certain domiciles, e.g. Bermuda,
Channel Islands
Reserves/premiums are built up as pre-tax profits
Reduces insurer credit risk exposure
Could select against insurance market by increasing retention in captive when
in hard market
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Disadvantages
Ties up the groups capital so potential conflict of opportunity cost of captive
versus alternative better returns in group activities
Increased volatility in group results dependent on reinsurance retention levels
i.e. lack of risk-transfer
Costly and complex to set up and subsequent running costs
May pull management time and resource away from main Group activities.
Location may be a factor here.
Might not have the economies of scale of an external insurer so may overall be
more expensive even though not giving away profit margin
Accumulation of risk
Comments on Question 2(iii): Bookwork question, generally well answered by most
candidates.
(iv)
Capital requirements
This will depend upon whether the subsidiary is to be restricted to the
manufacturers group business or not.
If it is restricted, the need for capital may be fairly low since this selfinsurance arrangement is basically equivalent to internal group accounting.
Although the actual capital requirements will depend on the domicile of the
captive
The statutory minimum requirement is required as long as the parent realises
that it must subscribe more capital in order to maintain the minimum at least at
every year end for the purposes of declaring financial accounts to the
regulators and shareholders.
If the company is to be seen as an independent trading entity which is
accepting business from elsewhere, then it needs enough capital to show the
level of solvency margin expected of other insurers.
This will almost certainly be greater than the statutory minimum requirement.
Capital and solvency levels will be a critical factor in the captives ability to
attract business as a measure of its security to meet claims as they fall due.
The regulators of the country in which the captive will be set up may also
demand a far greater level of security for independent policyholders
The parent will need to balance the capital employed against return achieved
against the alternative use of capital within the manufacturing company.
Consider changes in future solvency regulation.
Generic capital points e.g.
volumes & growth
initial costs
adequacy of premium rates
use of reinsurance
expected volatility
adequacy of reserves
investment strategy
Page 11
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Reinsurance programme
The reinsurer will require full details of all the group insurances it will write in
order that it can rate them.
Setting the level of retention will be important
a lower retention will attract increased claims supervision by reinsurers.
. as they will want to ensure that adequate risk management procedures are
in place to limit claims in size and volume.
The company may wish to purchase reinsurance initially to benefit from
technical assistance
and to provide financial support.
The costs in providing reinsurance for this captive may be prohibitive if it is
small in relation to other insurance companies who have greater purchasing
power.
It might be very difficult to place proportional reinsurance since the company
could write business at artificially low premiums in agreement with the
holding company
.. with all subsidiaries being then required to pay supplementary premiums if
necessary.
If the captive could persuade reinsurers that it was rating risks on standard
market rates and underwriting correctly, it might obtain reasonable terms.
Its requirements would then be fairly standard, e.g.
Surplus treaty for commercial fire and business interruption
Excess of loss for motor, liability and goods in transit
Quota share outward/inward with other insurers/captives may also be an
option to reduce claims volatility and reduce accumulation of risk
Catastrophe excess of loss to reduce exposure to concentration of risk in
one area (all property and casualty covers)
Generic reinsurance points e.g.
Consider the groups overall risk appetite
Consider what reinsurance is available and the cost
including possible profit-sharing arrangements
Consider alternatives to reinsurance available, e.g. more capital from parent.
Consider net impact on capital requirements
Consider security status of available reinsurers.
Fronting could be used by captive if convenient or cost-effective
Comments on Question 2(iv): Although reasonably well answered, most candidates
missed marks for identifying the differences in capital requirements between open and
closed captives. A number of candidates discussed in detail the current UK
regulations on capital and Solvency II when the question clearly states that the
captive will be set up in a non EU country rendering these comments largely
redundant. Few candidates discussed the pros and cons of setting the desired
reinsurance retention limits. There was a tendency to concentrate on general capital
and reinsurance points rather than considering the specific issues for the captive.
Page 12
Subject SA3 (General Insurance Specialist Applications) April 2008 Examiners Report
Page 13
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
22 September 2008 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2008
Faculty of Actuaries
Institute of Actuaries
You are an actuary working for a large, diversified insurance group based in the UK.
You have been recently transferred to the Megarisks Division (MAD). MAD writes
high layer product liability insurance. It accepts business via the slip system in the
London Market. It tends to take large lines on the policies it writes, and does not
participate on policies with excess points less than 100 million. The policies cover a
range of major multinational companies.
The director of MAD has asked for your assistance. Like you, the director has only
recently transferred to MAD. He previously managed the UK household property
division, and has no experience of product liability business. The director would like
to understand more about product liability insurance.
(i)
[1]
(ii)
[1]
(iii)
List the main factors MAD would be likely to consider when assessing the risk
under each policy, stating why each factor is relevant to the risk.
[9]
MAD started writing business in 2002. The written premium, paid and incurred
losses for each underwriting year as at 31 December 2007 are summarised below.
Amounts are in millions. MAD does not purchase reinsurance.
Underwriting Year
Written Premium
Paid Claims
2002
2003
2004
2005
2006
2007
5.0
10.0
15.0
20.0
20.0
15.0
0.0
0.0
0.0
0.0
0.0
0.0
Incurred Claims
0.0
30.0
0.0
0.0
0.0
0.0
There is only one claim for which a reserve for indemnity is held. This claim is on
the 2003 underwriting year and was reported during 2005.
(iv)
(v)
Describe how you would produce a best estimate of unpaid claims for this
business, in respect of all underwriting years as at 31 December 2007. Both
discounted and undiscounted estimates are required. Note that you are not
required to produce an estimate, but rather to describe how you would go
about producing one.
[19]
SA3 S20082
The director of MAD has told you that he does not want the reserves to deteriorate.
He would like to understand how confident you are that the actual unpaid claims will
be no more than your undiscounted best estimate.
(vi)
Outline points you would make in a meeting with the director regarding:
(a)
(b)
The director is keen to monitor changes in the adequacy of premium rates in the
portfolio.
(vii)
The director has recently read an article about insurance-linked securities (ILS). He is
considering creating a bond which could be sold to the capital markets, which would
provide funds to MAD in the event of a deterioration in the reserves.
(viii)
SA3 S20083
Quote-u-online is a new UK general insurance company that has recently been set up
with the aim of selling personal lines insurance direct to the UK public exclusively
through the internet. The company will advertise in newspapers, on television and the
internet and will also be included on all the major price comparison websites. All
quotes given and claims notified will be through online screens only. Telephone
support is only offered to sales and claims enquiries.
The companys underwriters devised the premium rating structure and rating levels.
At the time of the launch, the Chief Executive (CEO) has asked you, as a consulting
actuary, to explain the areas of uncertainty that may exist within the premium rates.
He has not shown you the proposed premium rates but asked for your report to focus
on the issues rather than the proposed rates.
(i)
Discuss the matters that you will need to cover in your report, with reference
to the main products that are likely to be sold.
[18]
It is now two years since the launch and the company has been successful in acquiring
business, especially in the private motor account.
The CEO has requested that you provide an independent assessment and report of
how profitable the current private motor account is. You will be given access to
whatever company data you require. However, the CEO confides in you that he
believes that the information from the companys case estimators is of little use.
(ii)
(iii)
[5]
Describe how you would produce such an assessment assuming that the case
estimate information is of poor quality.
[15]
[Total 38]
END OF PAPER
SA3 S20084
Faculty of Actuaries
Institute of Actuaries
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
R D Muckart
Chairman of the Board of Examiners
December 2008
Comments
Individual comments are shown after the solutions to each part question that follow.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
(i)
Comments on Q1(i): This definition question was generally well answered, although
a disappointing number of candidates simply regurgitated the question with some
form of This offers cover for liabilities arising from products without mention of
the nature of the liabilities and many did not mention third party.
(ii)
Example Loss
Possible examples include faulty motor components causing a large number of
motor accidents, pharmaceutical product liability relating to a widely
distributed medicine, or failure of a single very expensive product (such as an
industrial turbine). Many other examples are possible, but the example should
be extreme enough to potentially produce losses excess of 100 million, and
be within the scope of product liability insurance.
Rating Factors
Nature of product/industry type
Certain products tend to experience a higher frequency and severity of losses,
e.g. stationary manufacturers would tend to have a lower loss potential than
pharmaceutical companies.
Turnover or payroll
Requires high turnover to pose a realistic risk to the high layer
Geographic location of sales and geographic location of manufacture and
related quality control laws
E.g. litigiousness in the US / separate US and non-US turnover figures may be
requested
Latent claims / amount of the product already sold and used
Packaging instructions and reason
Subjective factors are also likely to be considered by the underwriter, e.g. his
understanding of the insureds risk management systems.
Claims history may be considered
Possibly using a lower claim threshold
However, claims history will frequently be limited, or of little relevance to the
current risk environment.
Consider claims history of similar companies
Page 2
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Limit/line/excess
Attachment points impact likelihoods of claims / large claims
Whether cover is on a claims made or losses occurring basis
Whether a sunset clause is included and/or RDI.
Writing business on a claims made basis/with a sunset clause allows the final
underwriting result to be determined more quickly
Under occurrence business, new claim notifications may be received many
years after the policy has expired.
Whether losses can be aggregated by event
Whether there is an aggregate deductible
Level of aggregation with that risk and the rest of MAD's portfolio
Treatment of legal expenses (excluded, included in addition to limits, included
within limits)
Comments on Q1(iii): Candidates almost invariably identified such key factors as
the locations sold and type of industry/products produced, although many went into
extensive detail on the industry/product type while missing other key aspects of the
risk such as the policy terms or attachment points.
(iv)
Claim Characteristics
Liability claims tend to be long-tailed, i.e. claims may take many years to be
notified.
The slow notification is likely to be a pertinent feature of MADs experience as
products that have continued to be used for a significant time before discovery
and notification are more likely to hit the excess point
If MAD writes policies on a claims made basis this will affect the
development profile of the risk, depending on the time limits for reporting
Case estimates are often highly uncertain.
Uncertainty in respect of reported losses relates to the existence of liability as
well as its quantum
Settlement can be a lengthy process involving legal action, particularly for
claims of this magnitude
Claims are heavily affected by legislative changes. There may be issues that
lead to claims purely on this basis.
Claims are heavily affected by inflation, including general, wage and court
award types, and inflation is heavily geared for MAD as it is an Excess writer
The outcome of the settlement process might be that the insurer is not liable
for the claim, e.g. because it is not covered by the policy, or because the final
claim is below the excess point of the layer.
However, the insurer would likely incur legal and other costs in handling some
of the claims received, even if no indemnity is ultimately payable.
The majority of claims hitting MAD's excess point are likely to be the result of
catastrophes and accumulations
Re-opened claims.
Latent claims can be an issue, with claims often not noticed for a while.
Payment characteristics - periodic / lump sum
Litigiousness
MADs claim frequency is likely to be low because few claims would be
expected to exceed the high excess points at which it writes.
Page 3
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
MADs claim severity is likely to be high as if a claim reaches the high layers
insured it is likely to be very large.
The data given for MAD appears to be consistent with low frequency, high
severity claim experience, and losses taking several years to settle.
Comments on Q1(iv): Candidates generally scored well on this question, although
the number of potential points available was well in excess of the maximum mark
leaving a high score comparatively easy to obtain.
(v)
Page 4
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Page 5
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
(a)
(b)
Page 6
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
General comments
It should be noted that premium rating on this account is necessarily
subjective.
As a result of this subjectivity, any method of premium rating will be
approximate.
Year to year premium comparisons
For stable portfolios, the overall premium can be compared from one year to
the next
Alternatively, for risks written in both 2007 and 2008, compare the premium
charged in each year to get a risk level movement and aggregate it to portfolio
level.
These approaches are simple and practical but require reasonable levels of
stability in the portfolio.
The methods will not pick up the effects of new and lost business.
Page 7
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Page 8
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Page 9
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
(i)
Page 10
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Marketing/brand risk from site crashing or if it takes too long to get a quote.
Risk of expenses being greater than expected due to handling lots of telephone
calls from internet referrals.
Potential impact on fraudulent claims from economic downturn.
Risk of antiselection if entering the market with less sophisticated rating
structure than competitors.
This is a potentially serious issue due to the level of referrals from aggregator
sites which naturally highlight underpriced areas of the rating structure.
Motor
Volume is a key factor. If the company writes too little business, the fixed
expenses allowed for in the premium rates may not be recouped.
Persistency is also critical in the longer term as renewal expenses will be
smaller compared to initial expenses as well as broker market costs built into
their premium rates.
Claims experience is usually not very volatile with the exception of very large
individual losses.
Antiselection because of the poor rating structure is a more critical issue for
motor business than for others
The impact of investment returns is not a critical issue as motor mainly
consists of short tail damage claims with usually a smaller amount of longertailed liability claims.
Claims inflation is a material issue for the bodily injury claims.
Household
As with motor, volume is a key factor.
Household business tends to have better persistency than motor so may have
more difficulty breaking into this market with established players and a
sizeable market attached to the building society/mortgage channel.
Customers who regularly shop around direct through aggregator channels may
result in a lower persistency level once business is gained.
There is greater uncertainty from year to year on claim amounts than motor
due to more of the claims being linked to uncertain weather conditions such
as:
freeze leading to burst pipes
storm damage to properties
flood damage to properties
long, dry summer leading to subsidence
There are fewer critical rating factors compared to motor (location and sum
insured being the most important) and therefore less uncertainty from the
rating structure.
As this is generally a short tail class, investments are not a major issue.
Rebuild costs may be linked to inflation, so can be a significant risk
For both classes, the use of excess of loss and catastrophe reinsurance will
help limit some of the uncertainty in the claims experience. However this will
be at a cost.
Page 11
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Risk that notional sum insured used in rating engine for household quotes is
incorrect
Other classes
Other main personal lines classes of business that the company may be writing
include:
Travel
Pets
Creditor
Personal Accident
Warranty
The premium rating structures of these products are usually less sophisticated
with all insurers using broadly the same rating factors.
Claims are for relatively small amounts and are usually very short tailed.
Medical inflation (for Travel) and vets fees inflation (for Pets) are potential
areas of uncertainty as recent trends have shown an increase in these.
Expenses
Amount of expenditure on acquisition can be controlled by the company.
However volumes of business emerging from the advertising are highly
uncertain. So expenses per policy are often very difficult to predict.
The total level of expenses may differ from the amount assumed in the
business plan.
For example, the cost of hiring staff or obtaining premises may exceed
expectations (or other example).
The insurer may not be able to raise premiums to cover expense inflation due
to competition in the market.
Assessing the level of uncertainty with respect to volumes of business
Need to consider trends in methods of buying and selling insurance.
The stage in the insurance cycle will affect the volumes of business that these
particular rates will generate.
Current and likely future trends between the high street broker market,
telesales brokers and internet operations need to be forecast.
Assess the current number of internet based operations and their financial
position if known.
Likely future number and size of internet based insurers.
The history of existing internet based insurers (how quickly they gained
critical mass, how many have failed)
Impact of premium rates on volumes
Conversion rate is critical to volumes achieved.
Conversion rate will be highly price sensitive due to method of sale.
This will depend on the extent and speed with which the company revises its
premium rates in response to experience.
E.g. a company may find it can reduce its rates in a certain rating cell to
increase conversion rate without impacting significantly on profit.
Page 12
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Comments on Q2(ii): This question was generally well answered, although a number
of candidates were only vaguely aware of some of the detail of GN12, which should
be an essential part of any candidates preparation for SA3.
Page 13
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
(iii)
The main emphasis at this stage will be on how well the company has
achieved its planned loss ratio, i.e. estimated ultimate claims against earned
premium.
Other main factors
Expenses
Expenses incurred to date are likely to be very high due to development and
initial running costs of the new company and this should be adjusted for to
arrive at a long term assessment of profitability.
Example of expense breakdown (loss adjustment, fixed, variable etc)
Investment income
Reinsurance cost
Capital costs / profit margin / requirement etc
Data issues
The absence of good quality case estimates is an issue, primarily due to the
difficulty in assessing the tail development of longer tail claims such as third
party bodily injury.
We only have 24 months of development experience and earned exposure in
the initial 6 months will be very low, meaning the credibility of the paid
development at the tail will also be questionable.
The claims handling procedures would also likely take some time to stabilise.
Earning patterns and run-off for the first few months would be unstable and
this should be borne in mind in any analysis (any relevant attempt to correct
for this)
As the company has been successful, there may be more reasonable patterns of
development from later months. It may be possible to use these to fix the run
off pattern for the first accident year.
If PD and BI are considered together then the resulting paid claims
development will include virtually no third party bodily injury claims.
Third party property damage claims may also be under-represented unless it
adequately allowed for with a tail factor
If they are considered separately then there will be little to no data at all for the
bodily injury.
Therefore the use of paid triangulations with chain ladder techniques alone
may well under-project by significant amounts.
Other methods will need to be used to determine appropriate levels for IBNR
and IBNER on longer tailed claims.
General data splitting
Estimated ultimate claims will need to be calculated by subdividing the claims
into homogeneous groupings of similar development profile.
Splits are likely to be (in ascending order of tail) own damage, third party
damage and third party bodily injury.
If the data allow, it may be possible to separately analyse gross payments and
recoveries received from third parties.
Further sub-analysis may be taken between comprehensive and noncomprehensive business.
Page 14
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Accident month data should be viewed to determine if there are any trends
emerging from the data.
PD / BI data splitting
One could develop own damage and third party damage separately, using any
additional company or industry-wide data available to derive a suitable
IBNR/IBNER.
For bodily injury, an addition to the above could be applied by either:
projecting bodily injury claim numbers to ultimate and then applying a
market average cost of bodily injury claims
recruiting or requesting a claims assessor to concentrate on coming up
with a sensible estimate for each of these claims (as there may only be a
few hundred)
For the latter, it will be particularly useful in identifying particularly large
potential outstanding liability claims as this could have a significant impact on
profitability.
Benchmarking
Compare the loss ratio against other insurers in the market.
Ensure that loss ratios are defined in a consistent manner e.g. treatment of
claims handling
Assess long term profitability by assuming similar loss ratios in the long term
along with expected long term expense ratios, e.g. by considering the expense
ratios of other insurers who are long established in the internet market,
together with investment rates achievable.
One possibility is to make use of market data to select a suitable tail factor.
E.g. FSA Returns for a similar company or a similar set of companies may
allow development factors of paid to ultimate to be derived.
Miscellaneous key factors
The mix of business (comp versus non-comp)
A review of key exposures in the account may highlight areas of weakness /
concern.
The potentially different terms and conditions between insurers.
Any changes to the rates and structure since the company started writing.
Mix by source:
the different claims handling procedures
the actual mix of claims
Exposure-based / BF type methods.
An exposure-based approach could be used.
This could involve taking projections from more developed accident months
divided by associated earned exposure and applying this risk premium to
more recent, less developed accident months.
Bornhuetter-Ferguson methods could be used on the claims splits by taking
initial assumptions about the loss ratios split between own damage, third party
damage and bodily injury and split between comp and non-comp business
Page 15
Subject SA3 (General Insurance Specialist Applications) September 2008 Examiners Report
Page 16
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
27 April 2009 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes before the start of the examination in which to read the
questions. You are strongly encouraged to use this time for reading only, but notes
may be made. You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2009
Faculty of Actuaries
Institute of Actuaries
The Republic of Merino is a developed country with a range of small, medium and
large general insurance companies.
Regulations currently require general insurance companies in Merino to establish
claims reserves on a best estimate basis. Thus the claims reserves held by companies
represent the mean of the range of possible future outcomes, without margins.
Two years ago, one of the largest general insurance companies in Merino became
insolvent. In response to public concern about the state of the insurance industry, the
government has proposed new regulations. These would require general insurance
companies to establish claims reserves that include risk margins. It is proposed that
general insurance companies hold claims reserves equal to the 75th percentile of the
range of possible future outcomes.
Company A is a general insurance company writing private motor insurance. It has
been writing this business for 20 years and is the largest insurer in Merino.
Company B only started writing insurance one year ago. It writes only professional
indemnity insurance.
(i)
The government is keen to understand how general insurance companies are likely to
view this proposal.
(ii)
(iii)
Describe the concerns that the insurance industry may have with this proposal.
[18]
The government announces that it will go ahead with its proposals. However, general
insurance companies will be allowed to choose the percentile risk margins that they
wish to adopt. The adopted risk margin must provide a probability of sufficiency
greater than or equal to 60%. General insurance companies must publicly disclose the
percentile that they have adopted as their risk margin.
(iv)
Describe the issues that a general insurance company should consider when
deciding the probability of sufficiency to adopt.
[14]
[Total 43]
SA3 A20092
he has never possessed a rating model that he has trusted and does not believe that
a rating model can be better than his own judgement
his incurred loss ratios over the last ten years have been at a level that he believes
has made money in every year except one
(i)
Explain the risks to the company of not building a new rating model.
(ii)
Discuss the advantages to the underwriter of building a new rating model. [8]
(iii)
Outline the information that would be required to build the rating model, in
particular considering the following areas:
[12]
Underwriting
Reinsurance
Claims
Finance
[17]
(iv)
Outline the problems that might be encountered in building the rating model.
[4]
The company has had discussions with a UK based managing general agent (MGA)
that specialises in casualty insurance. The MGA offers underwriting and claims
handling services. It is looking for a general insurance company to provide capital by
taking a coinsurance follow line on its portfolio of employers liability business
through a binding arrangement.
(v)
END OF PAPER
SA3 A20093
Faculty of Actuaries
Institute of Actuaries
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
R D Muckart
Chairman of the Board of Examiners
July 2009
Comments
Individual comments are shown after the solutions to each part question that follows.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
(i)
Example Methods
Company A
Any relevant example likely to be one of the standard stochastic methods.
Relevant reason, e.g. company A likely to have good data or suggestion is a
widely recognised method.
Company B
Any relevant example judgement, scenario analysis, or a statistical method
applied to benchmark data.
Relevant reason, e.g. company B has limited internal data or necessary to use
judgement.
Advantages of Margins
Reduces the likelihood of holding inadequate claims reserves.
Relevant examples where reserves might deteriorate.
Should have a positive impact on credit ratings/share price support/attracts
investors/international trade. This may make the general insurance industry
appear more secure.
This is an advantage to insurers. People will only buy insurance if they believe
the insurer will be able to pay any claims. This is particularly relevant for
Merino, as one of the largest general insurance companies has recently
become insolvent
The regulations would be likely to promote a greater use of stochastic
modelling within companies. Although stochastic modelling would not
necessarily be appropriate for every portfolio the proposals would require
companies to give greater consideration to reserve uncertainty, thus increasing
management awareness
A greater understanding of reserve uncertainty will provide valuable
information to managers (or other advantage of stochastic modelling)
Consideration of reserve uncertainty may align well with other analyses
undertaken by insurers, e.g. DFA, estimating capital requirements.
Reserving above the best estimate is increasingly regarded as best practice.
The insurance industry may consider it advantageous for local regulation to be
in line with international standards. This will particularly be the case if local
market participants also operate internationally.
All companies are required to carry out these calculations - neutral to
competition.
Defer profits and thus defer payment of tax.
Encourages more appropriate use of reinsurance.
Makes benchmarking easier/consistency in the market.
Page 2
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Some companies may not have sufficient data to apply a stochastic method.
Some companies may not have sufficient internal expertise to calculate the
required estimates. External expertise may be expensive to engage or
unavailable.
Additional costs to companies in doing the calculations
These additional costs would need to feed into premium rates with potential
impact on level of sales.
Risk margins are only one part of the regulations that ensure the solvency of
insurers (e.g. operational risk, credit risk)
Arguably it is the total amount of capital held by insurers that is of greatest
importance, not whether the capital is held as free reserves or reserve margins
Significant reserve increases can be difficult to explain to shareholders and/or
other stakeholders
However, an annual release of margins from prior periods would become
expected.
Some exposures are particularly difficult to estimate margins for, an example
being latent claims.
There are many approaches to calculating a 75th percentile.
Different methods can produce very different results.
Different methods are appropriate for different lines of business.
There is not yet general agreement among actuaries as to which is the best
approach for a given class of business.
Naive application of methods can provide misleading results.
From a regulatory perspective, it may not be possible to determine whether
companies estimates really do represent the 75th percentile.
Increased regulatory costs will feed back to general insurance companies.
.
Although it is also impossible to say whether a best estimate really is the mean
of the distribution, uncertainty is greater for more extreme percentiles.
It can be difficult to compare results between insurers, e.g. if company A has a
lower margin than company B, it will be unclear whether this reflects the
riskiness of the liabilities, method selection or a difference in judgement? (or
other relevant example)
Such uncertainty may undermine confidence in the insurance industry.
Page 3
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Page 4
General insurance companies would want to know the level competitors and
other countries are adopting.
Consider any views that have been expressed in the market, e.g. by
regulator/government, rating agency, competitors, industry or professional
bodies.
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
If most companies decide to hold 80%, a company holding 70% might appear
unattractive to customers or other stakeholders (or other relevant example).
However, stakeholders may be much less interested in reserving probability of
sufficiency than other factors (e.g. policyholders may buy based on price).
Companies would certainly want to hold at least the minimum specified by
law.
Consider uncertainty in best estimate and distribution of uncertainty to decide
on level of percentile, e.g. if there is a greater than usual level of uncertainty in
the reserves, companies may wish to hold a higher margin in order to increase
the likelihood that reserves will be adequate.
However, the financial cost of holding reserve margins at a higher level of
sufficiency will be greater for the most uncertain liabilities.
The cost of holding risk margins to a particular probability of sufficiency will
also depend on the diversification within the portfolio.
Insurers should not adopt extreme risk margins, e.g. 99.9%.
Such percentiles cannot reliably be calculated for many classes of business.
It would be damaging the general insurance companys reputation if reserves
deteriorated beyond an extreme margin.
As the selected percentile moves above the mean, the cost of providing for the
risk margin increases significantly, e.g. it generally takes more capital to move
from the 90th to the 95th, compared to moving from the 70th to the 75th.
For some highly skewed distributions, the mean might be above the 60th
percentile, e.g. reserves for asbestos claims (or other example of a highly
skewed distribution).
It would seem imprudent to hold less than the best estimate reserves.
The company should consider the link between reserve margins and total
capital requirements.
Consider the total amount of assets available and ability to raise capital.
The company may be relatively indifferent about the precise split of assets
between capital and reserve margins.
The company may choose to minimise risk margins to increase the apparent
level of capital.
This may be attractive if investment restrictions apply to assets backing the
free reserves and the reserve margins (or other relevant example).
Alternatively there may be some tax or other advantage in adopting a higher
reserve margin.
The company should consider its tolerance for reserve deterioration.
It is possible to imagine companies with a high degree of tolerance (e.g.
certain privately held companies) (or other example)
The company may have derived statements of its risk appetite as part of its
broader risk management framework.
Such statements may include a policy on tolerance for reserve movements,
which would drive the decision on risk margins.
Page 5
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
(i)
Page 6
expenses
commission rates
investment conditions
capital required
e.g. as nature/size of company changes
changes in regulatory environment
target profitability
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Advantages to underwriter
More time to concentrate on underwriting more complex cases.
Simplified rating approach on standard risks.
Ability to quote quicker to assist expansion.
Potential to write higher volumes through efficiency savings or make more
careful selections for risks taken on.
Page 7
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Information requested
Underwriting:
Book rates and existing method of pricing adopted.
Trades/occupations covered/declined.
Existing rating factors considered/available.
Level of subjectivity needed.
Scale of size discounts.
Approach to pricing different limits of indemnity if applicable, e.g. increased
limit factor (ILF) curves used.
Distribution channel of business written.
Different policy wordings/terms and conditions used.
Exclusions and excesses for other European business.
Information provided by client when risk quoted, in particular the claims
history provided to assess what (if any) experience rating possible.
Frequency of claims.
Page 8
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Page 9
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Significant problems
Biggest problem is lack of data especially as small company.
Particularly in respect of disease claims.
Meaning little information in any rating cell and employers liability claims
frequency low so huge reliance on underwriter opinion.
May be few rating factors following rating model review that are hard to
define (underwriters view) .
Potential errors in the data.
Difficulty in building in different rules for each European country.
Future court awards unpredictable.
Costs of building rating models may be prohibitive (and lack of expertise to
build).
Added uncertainty around projected burning costs (appropriate allowances for
IBNR/IBNER).
Potential problem with underwriter buy in.
Particular problems if pricing higher limits of indemnity as incidence of large
claims even lower.
Latent claims are difficult to allow for objectively.
Potential IT problems if aiming to embed into existing systems.
Comments on Q2(iv): This was reasonably well answered, although few candidates
identified the lack of disease claims history and issues around different rules for
European business
(v)
Advantages:
Additional source of revenue with very little resource/cost required to set up
arrangement internally .
Greater expertise of MGA could provide potential to underwrite other types of
business not currently written by insurance company..
Relevant examples.
Based in the UK so no currency risks.
Marketing undertaken by MGA rather than coinsurers.
Diversify portfolio exposure into other types of business/countries thus
reducing accumulation risk.
Could provide expertise in handling claims for non-standard risks or claims
Provides policy and claims administration through its own IT systems so little
ongoing cost for insurer.
Lead insurer likely to be responsible for MGA audits so lower ongoing
administration costs.
Page 10
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
If MGA fails, the insurance company is only liable for its coinsurance share of
claims (i.e. lower risk than taking on whole risk and reinsuring).
If arrangement successful, could lead to additional capacity offered for other
classes of business (e.g. public and product liability) or cross selling.
Disadvantages:
Less control over underwriting decisions and risk that policy wording may be
undesirable.
Could lead to undesirable risks being underwritten.
Potential concentration of risk and/or aggregation of risk with own portfolio.
Certain risks may fall outside existing reinsurance limits or may expose
insurance company to risks not authorised to write by regulator.
Capacity limits would have to be imposed due to limited capital of insurance
company which may in itself restrict the type of business written
MGA may be competing for same target market as insurance company which
may result in company effectively competing against itself for same business
or could cause broker relationship issues if through same distribution channel.
MGA likely to request higher commission rates or fees compared to company
selling through brokers.
May not provide same return on capital compared to existing portfolio.
Potential loss of or reduced level of management information if MGAs IT
systems are substandard .
Less experienced MGA claims handling staff may result in higher ultimate
claims costs.
Potential lack of experience in handling particularly complex claim cases
involving serious injuries.
Claims handling fees may be higher than equivalent cost of insurance
companys own claims handlers.
Different claims handling philosophy to insurance company may imply
difficulty in establishing accurate claims reserves.
Especially if MGA is relatively new with little historical claims development.
Likely to be contractually tied into arrangement for an agreed period so
difficult to walk away immediately from arrangement if results are poor.
Increased delay between policyholder paying premium and receipt of
premiums from MGA due to credit agreements between broker, MGA and
insurance company meaning potential loss of investment income.
Revenue stream and service elements dependent on MGA staying in business.
Potential credit risk with binding arrangements.
Time delay on claims bordereaux will mean that internal development patterns
will not work well for the binding risks; may have to project separately.
Harder to exit the market rapidly if needed.
Reinsurer may not like the third party involvement.
May cause resentment with internal underwriter over loss of control or may
impose additional supervisory burden on in house underwriter to keep track of
the business.
Moral hazard dependent upon MGA share of risk (e.g. underwriting risk)
Page 11
Subject SA3 (General Insurance Specialist Applications) April 2009 Examiners Report
Page 12
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
6 October 2009 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes before the start of the examination in which to read the
questions. You are strongly encouraged to use this time for reading only, but notes
may be made. You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2009
Faculty of Actuaries
Institute of Actuaries
Set out the key issues and risks that need to be considered in this takeover,
indicating any specific aspects that could materially impact these risks. [22]
One of the units in Bs syndicate that is causing particular concern is the Special
Situations Unit. Agency B uses this unit to group a variety of individual niche
products that dont fall into the target markets of their main underwriting units,
including a number of contingency risks.
(ii)
Outline the general advantages and disadvantages of such a business unit. [5]
(iii)
(a)
(b)
Give two examples of the types of risk that could fall into this category
(excluding prize indemnity insurance).
[3]
One major source of premium written to this unit is a portfolio of prize indemnity
insurance risks. The portfolio is written under a binding arrangement with a third
party coverholder that manages the underwriting and claims handling with the
syndicate providing the capital backing.
.
The policies written cover fixed prize lotteries each with their own weekly draw and
various levels of ticket sales, with tickets often sold through affiliate groupings or
business connections. All the draws are on the same basis, with five unique numbers
per 1 ticket chosen from 50 possible numbers (the order of the numbers is not
important) and three fixed prize levels as follows:
The insurance covers the top two prizes at a premium of 25p per ticket, 20% of which
is paid to the binding authority underwriter to cover commission and expenses.
(iv)
Deduce the planned loss ratio that Agency A would estimate for this business.
[5]
(v)
Analysing the business in more detail has shown that one of the major sources of the
recent poor experience has been its professional indemnity business. This originally
focused on high value international clients, and has recently expanded rapidly to
develop a strong regional presence underwriting small to medium sized businesses,
particularly in the solicitors indemnity market.
SA3 S20092
As the board of agency A has little experience of this business it would benefit from
an introduction to the type of experience that might be expected and the way that this
business is written.
(vi)
[6]
The board would also like to understand the risks relating to this book of business,
including any key historic and ongoing features of this particular account and any
current market conditions that might affect these risks.
(vii)
Outline the key exposures to Agency A from this book of business and the
main investigations into this account that they should consider in order to
understand the risks better.
[14]
The board of Agency A has decided to go ahead with the takeover, but is unsure of
the ways in which it could be done and the key regulatory requirements that must be
observed in setting up a combined Managing Agency.
(viii) Outline the options available for a takeover, including the regulatory issues
that should be considered.
[6]
[Total 69]
SA3 S20093
Company A
Company B
10
15
20
20
10
17
16
18
State the meaning of each of the abbreviations MCR, ECR, ICA and ICG and
give a brief description. Details of how these amounts are calculated are not
required.
[5]
The bank is meeting with its client tomorrow, and capital requirements will be
discussed at the meeting. The banker would like to understand the likely reasons for
differences in the numbers, and in particular the following features of the data:
Company B has a higher ECR, although both companies have the same MCR.
Company B has an ICG greater than its ICA, but the ICA and ICG are the same
for company A.
(ii)
Write notes describing the possible key reasons for the differences noted in the
list above.
[18]
The banker believes that the client may want to consider alternative levels of
capitalisation, other than the capital requirements given in the table above, when
considering which company to acquire.
(iii)
Discuss examples of capital requirements, other than those listed above, which
should interest the client.
[8]
[Total 31]
END OF PAPER
SA3 S20094
Faculty of Actuaries
Institute of Actuaries
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
R D Muckart
Chairman of the Board of Examiners
December 2009
Comments for individual question are given with the solutions below.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
1
(i) Key issues to investigate
Reserve adequacy company is currently solvent under their reserving
methodology, but capital backing is obviously weak.
If over-reserved there is a potential benefit to the company but given the
company is in a weak capital position that is leaving it vulnerable to takeover
it is unlikely to be materially over-reserved as they would most likely have
moved to a best estimate basis to remain solvent enough to continue trading /
attract a more favourable takeover settlement, leaving it far more likely that
any risk is to the downside due to the company being under-reserved
One aspect that materially affects this level of risk is the length of tail and
level of uncertainty of the business lines being written with shorter tail classes
such as property posing significantly less reserving risk than longer tailed
classes.
along with the length of time the syndicate has been in operation if there are
any longer tailed lines as that increases the number of years on which reserves
could potentially deteriorate
including any inherited lines and discontinued business units
Reasons for the poor loss experience
e.g. was it due to a series of unfortunate major claim events e.g.
catastrophes, higher than anticipated latent claim amounts
in which case one would need to consider whether or not the business
is adequately diversified / protected against such volatility
and whether any lack of diversification is simply due to the small size
of the syndicate and once integrated into your larger syndicate such
volatility wouldnt be so material
and is the likelihood of any further such volatility within your agencys
risk tolerance
and if due to major claim events were these market claim events that
materially affected their peers or were they isolated events of bad
underwriting judgement / luck for this syndicate
or was it due to poor underwriting controls allowing the unit to write
excessively large lines on individual risks
or a failure to properly manage aggregate limits in particular areas
or was it simply due to inadequate rating levels
or was it poor claims controls
or an increase in fraud
and if so can these be addressed with improved internal controls /
rating models
and are the market conditions going forward likely to offer a more
favourable rating environment
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
5 4 3 2 1
50 49 48 47 46
= 1 in 2,118,760
expected cost of 4.72p per ticket to cover this prize
Expected claims cost from the second prize:
5 possible ways of picking 4 of the 5 correct numbers
Each of those can be combined with any of the 45 remaining possible numbers
Therefore 5 45 = 225 possible ways of picking 4 out of 5 from any
combination
2,118,760 possible overall combinations
225 / 2118760 = 10.62p per ticket
Net premium after binding authority underwriters commission & expenses =
20p per ticket
You work for a Lloyds syndicate so all accounting would be done on a net of
commission and external expenses basis (award marks for alternative
appropriate assumption stated)
Expected loss ratio = (4.72 + 10.62)/20 = 76.7%
Page 6
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
Even those claims that do emerge can cover fairly unique situations
that are often tested in court requiring highly subjective valuations based on
good understanding of the risks and situations in question
which makes the quality of the claims assessors used by the company critical
in understanding the level of risk in the existing business
Given the high value international clients there could be large claims and
precedent cases
and deep pockets syndrome
and more general reserving methodology
and development profiles for the business
Particular attention to any changes in claim assessment methods / staff that
might change the development profiles of the business
Investigate reinsurance programme
Given the slow development, rate changes are of critical importance for this
business for early years of development as emerging experience will be
insufficient / lack of data on solicitors
New business strain as it's a growing book
rapid expansion may be a result of under-pricing leading to solvency issues
Coverage changes can also have significant impact on rate movements for this
type of business
e.g. costs in addition coverage
Investigate potentialrecent significant market events and the impact (if any) on
this book
Investigate rate monitoring quality and methodology and portfolio analysis
including allowances for any coverage changes
Coverage offered can have a significant impact on the development profile of
the business
claims made versus losses occurring in particular
Investigate the type of coverage offered and any trends or changes in coverage
historically given change in mix of business
Potential accumulation risk given strong regional presence
Investigate level of expenses in running the business
Currently in a very soft market for UK PI business
particularly for solicitors business
with a number of insurers reducing or withdrawing their product range
with low profits or even losses expected to emerge from recent years across
the market as a result of the low rates
Business is also highly influenced by macroeconomic events
Page 10
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
and allow the practical process of merging the companies to begin / the
underwriters to continue writing to your agencys current syndicates
Key stakeholders would need to be involved, namely Lloyds / FSA, both of
which would have minimum capital requirements for the merged entity which
would need to be met
requiring a new capital assessment to be put forward for the combined
business to demonstrate adequate capital backing for the takeover
The reserves of the newly combined entity will need to be reviewed and
signed off
Mentions of GN 12 / 20 / 33 & 50 as needed: professional guidance with
relevant examples.
This was not generally well answered, with many candidates demonstrating little
knowledge of potential routes to purchase and giving little consideration to capital
considerations that would form the cornerstone of regulatory interest in a takeover,
often considering competition rules or treating customers fairly while not even
mentioning capital. Very few mentioned professional guidance. A number of candidates
discussed whether the syndicate should be run separately or incorporated into
Syndicate A.
2
(i) Definitions of MCR, ECR, ICA, ICG
MCR Minimum capital requirement.
MCR is the greater of GICR (general insurance capital requirement) and the
minimum guarantee fund (MGF/BCRR) set by the EU.
Formula based calculation
Essentially comprises capital charges as a percentage of claims or premiums.
The capital charges only reflect the relative riskiness of different categories of
claims and premiums to a very limited degree.
Calculated is retrospective
ECR Enhanced capital requirement.
A more risk sensitive measure than the current EU directive minimum.
Comprises capital charges as a percentage of claims, premiums and asset
values.
The capital charges reflect the relative riskiness of different categories of
assets, claims and premiums.
Currently a soft test of solvency not a hard test
ICA Individual capital assessment.
This capital assessment was introduced by the FSA.
Page 12
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
Insurers are required to make their own regular assessments of the amount and
quality of capital that is adequate for the size and nature of their businesses.
Expressed as a percentage of ECR
Aimed to be held at the 99.5th percentile level
ICG Individual capital guidance
The FSAs view of the level of capital that should be maintained.
Based on the FSAs review of the firms assessment of its capital needs and its
risks.
Most candidates scored highly on this very bookwork question.
Page 13
Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
This may be because the classes of business written are at different points in
the insurance cycle.
The difference in ICAs may in part be due to differences in the judgements
made by each company, rather than the inherent riskiness of the businesses.
Considerable judgement is required as part of an ICA assessment.
Some of the most critical areas require the most judgement, e.g. correlation
assumptions.
Alternatively, the difference may arise due to capability/quality or type of
modelling techniques used, rather than judgement.
The companies may be using a different time horizon in their ICA
calculations, although in theory the different time horizons permitted should
be equivalent.
Reasons why Company B was given an ICG greater than its ICA
For company B, the FSA took a different view of the capital required than was
produced by the company.
The FSA may have thought that some of the assumptions made by company B
were too optimistic.
The FSA may have thought that some risks in the business had not been
identified or adequately assessed
Some candidates scored extremely well by considering the various moving parts of an
ICA in detail. Knowledge of the more prescribed nature of the ECR and MCR was more
patchy, although even this section was still well answered. Perhaps the most common
reason for scoring low marks on the question was the allocation of time between the three
aspects, with many candidates giving almost equal weight to all three. Good candidates
recognised that there is really only one reason why the ICG would be higher than the
ICA, i.e. that the regulator thinks the ICA is too optimistic! Other common errors were
simply regurgitating bookwork points about the various capital measures without
addressing them to the question in hand.
.
(iii) Alternative Capital Measures
May wish to consider future changes in statutory capital requirements.
e.g. Solvency II
Company will be concerned about return on future capital requirements, not
just present requirement.
However, there will be uncertainty regarding what the future requirements
may be.
Capital requirements indicated by an internal model (other than the one used
for ICA).
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Subject SA3 (General Insurance Specialist Applications) September 2009 Examiners Report
The company may use different risk tolerances from FSA regulatory capital
(which is at the 99.5th percentile).
The company is likely to want to hold more capital than the ICG, as this is a
fairly low level of capitalisation.
May wish to hold more capital to avoid regulatory intervention/interference.
The internal model will allow for diversification of the target with existing
business.
One target company may have a much lower capital requirement than the
other if it is uncorrelated with the purchasers existing activities.
Capital requirements in other jurisdictions
Purchaser may be regulated outside UK
Capital required by rating agencies.
Insurer may need to retain certain rating to attract business.
Different rating agencies may impose different capital requirements.
Consider amount of capital needed to purchase the target
Need to get return on purchase price, not just the capital held by the insurer.
May be interested in capital requirements of target on some other basis
e.g. allowing for purchasers future business plans, such as increasing
premium or changing reinsurance requirements.
Level of capital held by its competitors so that it is not out of line with them
This was poorly answered. Many candidates focused only on formal capital requirements
with acronyms, talking at length about GICR or MCR etc., giving no thought to wider
business objectives and the role that capital considerations might play.
Page 16
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
26 April 2010 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes before the start of the examination in which to read the
questions. You are strongly encouraged to use this time for reading only, but notes
may be made. You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2010
Faculty of Actuaries
Institute of Actuaries
(i)
[2]
(ii)
[3]
(iii)
Identify the key regulatory regime changes to Solvency II from Solvency I. [5]
An actuary joining a London market general insurance company has been appointed
to manage the Actuarial Function under Solvency II and has been asked by the Chief
Executive Officer to assist in the setting of the business plans for the next three years.
This planning process will include a major review of the business as the company is
currently experiencing poor results, partly as a result of the economic climate, with a
steady deterioration in profits over the last two years.
The company writes three of its five classes of business through brokers (commercial
property, EL and D&O), and the other two directly via internet sales (motor and
personal creditor). The gross written premium is similar for each class. The D&O
and personal creditor lines have experienced poor and deteriorating underwriting
results over the last three years, the commercial property and motor lines have
experienced volatile results, while the EL line has seen small but steady profits.
The overall results for the last two years have led to returns on shareholders capital
of 15% and 20% respectively. The corresponding budget figures for these two
years were +5% and 0%.
From the initial work on looking at the problems, it has been noted that:
there has been poor risk selection with a large influx of unprofitable business
the D&O line has experienced three very large losses
a blanket 20% rate increase has been applied across all lines of business
the average cost of claims has increased across all lines of business
prior year losses are emerging owing to under-reserving for reported claims
expenses are escalating and exceeded the budget by 30% last year
The objectives of the company are to turn the situation around over the next three
years, with target returns of 7%, 0% and +10% respectively on the shareholders
capital. The financial planning process used historically has been as follows:
The starting point is the total earned premium and aggregate earned to incurred
loss ratio for the previous 12 months.
Premiums are adjusted in proportion to rate changes, in this case a 20% increase.
Expenses are assumed to be the same monetary value as the actual expense cost
for the previous 12 months.
SA3 A20102
(iv)
Outline the key issues which should be discussed in this report, including any
potential compliance issues under Solvency II.
[17]
The Board recognises that the current planning process does not provide adequate
insight into the business and is unlikely to be acceptable under Solvency II.
Suggest key considerations for improving the planning process, including potential
actions and appropriate measures to track the effectiveness of the process, with
respect to the following aspects of the plan:
(v)
(vi)
(vii)
Reinsurance issues.
SA3 A20103
[11]
[9]
[10]
[Total 57]
Give reasons why other general insurance companies may wish to transfer
portfolios of business to SID.
[5]
(ii)
Give reasons why SID may want to accept transfers of portfolios of business
from other general insurance companies.
[5]
Travel insurance Mojo currently sells annual travel insurance policies in several
countries. All policies are sold direct to customers via a website which is owned
and operated by Mojo.
Mojo would like to reduce its exposure to these businesses as soon as is reasonably
possible while still maintaining a reasonable return on capital.
(iii)
Describe possible exit strategies for the above lines discussing for each
strategy and each class of business whether the exit strategy is likely to be
attractive to Mojo.
[25]
SID is currently considering accepting two portfolios of business. The table below
shows details of each of the portfolios under consideration.
Portfolio
Liabilities (best estimate)
Transfer Premium
$2.0 million
$1.0 million
$0.1 million
$1.0 million
The liabilities have been estimated by the general insurance companies that wish to
transfer the business to SID, and the transfer premium is the amount in excess of the
best estimate quoted by SID to assume the liabilities.
A director of SID has expressed surprise that the transfer premium proposed by SID is
the same for both portfolios A and B, given that the estimated liabilities for portfolio
A are much larger than those of portfolio B.
(iv)
Suggest possible reasons why the two transfer premiums are different relative
to the best estimates of the liabilities.
[8]
[Total 43]
END OF PAPER
SA3 A20104
Faculty of Actuaries
Institute of Actuaries
EXAMINERS REPORT
April 2010 examinations
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
R D Muckart
Chairman of the Board of Examiners
July 2010
Comments
Individual comments are shown after the solutions to each part question that follows.
Faculty of Actuaries
Institute of Actuaries
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
(i)
Based on 3 pillars:
Pillar 1: Minimum capital requirements
Solvency Capital Requirement (SCR) and Minimum Capital Requirement
(MCR)
Pillar 2: Supervisory Review Process
Supervisors may require additional capital against risks not covered in
Pillar 1.
Pillar 3: Disclosure
To harness market discipline by requiring firms to publish certain details
of their risks, capital and risk management.
Comments on Q1(i): Generally well answered, although many candidates could not
describe Pillars 2 and 3 and a number of candidates were not able to name the three
Pillars.
(ii)
To undertake to:
Comments on Q1(ii): Very few candidates could give a full range of requirements for
Actuarial Function. Candidates were expected to be sufficiently up to date on such issues as
Solvency II to answer this question. Many candidates descriptions of the Actuarial Function
were rather lightweight. Most recognised the actuarial role in overseeing the technical
provisions but failed to recognise the wider aspects of the role, e.g. the input into the overall
management functions and confused the formal role of the actuarial function with the day to
day work of actuaries.
(iii)
Page 2
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
The new requirements move away from a crude one size fits all
approach to estimating capital requirements to more entity specific
requirements
More comprehensive covering liabilities & assets, e.g. harsher asset
recognition rules
New total balance sheet approach, with interactions considered
Now need to hold capital for insurance, market, credit, liquidity and
operational risk
New rules will compel insurers specifically to focus on and devote
significant resources to the identification, measurement and proactive
management of all risks
Prospective basis
Introduction of Own Risk and Solvency Assessment, or ORSA
Different disclosure rules,
including Solvency and Financial Condition Report, or SFCR
More recognition of the differences between insurers and reinsurers
Penalises underpricing/ underreserving
Capital requirements:
MCR Minimum Capital Requirement if net assets fall below which a
firm will be de-authorised
SCR Solvency Capital Requirement further up regulatory ladder of
intervention
These can either be based on standard formula or an internal model
Comments on Q1(iii): The main thrust of this part was to recognise the more risk focussed
regime under Solvency II, and while most candidates commented to this effect, only a
minority were able to provide sufficient detail. Candidates generally did better on many of
the high level differences but many failed to give the detailed, deeper points required.
(iv)
The actions and measures should be sufficient to ensure that the operation is
on target to follow its strategy and meet its goals.
If the measures being used to monitor the progress of the plan dont produce
the results expected, then there may be a need to revise the key actions in the
light of the new knowledge to ensure that the plan is back on track.
Problems with the current method
Aggregation across business lines / mix change / rate change issues
Even for internal purposes, there are clear weaknesses with aggregating
business lines in this manner/better to take each class separately
It is likely that different lines of business will be at different levels of
profitability, and as such any mix changes could significantly affect
average loss ratios.
There would be shifts in mix between years of account with different
strategic focuses in response to market opportunities and challenges
Mix changes are particularly to be expected following the blanket
premium increases imposed,
Page 3
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
as competition is ignored,
and the insurance cycle is rarely consistent across classes and so the
change is likely to be too high for some classes and too low for others
There may well be mix change effects even within lines of business
E.g. creditor business has been displaying significantly worse profitability
in the construction sector following the recent property market issues
The premium increases may also have unexpected effects on profit even
within classes, as good business is cherry-picked by competitors with such
high rate increases mainly only achievable on distressed or undesirable
business
Page 4
Use of single static claims inflation figure whichever year the planning
exercise is considering is clearly inappropriate
The claims inflation assumption should be updated regularly to take
account of any mix changes as the expected inflation is likely to be
significantly different
depending on the classes of business (so rather than using one average
claims inflation figure better to plan each class separately each with its
own inflation figure)
and within classes by claim type
and within a class/claim type, from one year to the next
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Other issues
Assuming the same absolute expense costs as in the previous year is likely
to be wholly unsuitable
Also as expenses exceeded the budget in the past they might also do so in
future
There is likely to be some degree of expense inflation over the year
Expenses can be split into variable and fixed
The variable part would not be expected to scale with any increases in
premium purely attributable to rate change
and is dependant on whether new or renewable business
There may also be one-off items present or absent in the previous year that
should be adjusted for appropriately
There are also issues with focusing on absolute monetary amounts for
expenses as combined ratios are then heavily dependent on correct
premium volume assumptions
In this instance, the method used is highly simplistic and likely to
significantly overstate premium volumes following such a high requested
rate increase
Average commission rate may change due to mix change effects
May also be higher on average if brokers request better commission rates
for successfully implementing the relatively high rate increases requested
Investment returns could vary significantly between years according to
market conditions / prevailing base rates etc.
and are likely to be depressed because of the current economic climate
and would be expected to vary if there were any changes in the mix of
assets backing the liabilities
The plan also makes no consideration for any changes to reinsurance
arrangements or the related costs.
Monitoring should be implemented more frequently than annually and
should allow for seasonality
Solvency II considerations
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Comments on Q1(iv): A number of candidates set out a proposed methodology rather than
focussing on the shortcomings of the current process. Whilst there was some overlap with
what the question required, this approach cost many marks. Also, many of the candidates
were trying to solve the problem of why the company's results were poor, and what to do to
turn the results around, rather than considering the problems associated with the planning
process. Most focused on the need to analyse at a more granular level, but many failed to go
into sufficient detail of how the analysis would need to change. A number of candidates
pointed out the problems with the analysis but did not suggest any suitable improvements to
be Solvency II compliant.
(v)
Page 6
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Frequency vs severity
Nil claims
Court award fees
Any other reasonable suggestion
Longer tailed classes such as EL are likely to use loss ratio expectations
for immature years, review these
Such a review should take account of
- Historical experience
- Adjusted as appropriate for large claims etc.
- Any viable benchmarks
- Rate changes
- Including coverage changes
- And claims inflation
- Mix changes
Any assumptions used should be consistent with internal modelling for
Solvency II
Obtain triangles of data in order to assess the adequacy of the reserves for
each class of business.
Possible projections include:
- Paid
- Incurred
- Premiums
- Numbers
- Gross & Net
- Accident or underwriting year cohorts
- Other valid suggestions
These triangle should be segmented at an appropriate level balancing the
need for homogeneity with credible data volumes
Page 7
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Page 8
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
And where starting profitability is similar for the future profit expectations
(or regrouped to fit as appropriate)
Segmentations that bear some resemblance to rating factors used in pricing
can be of value, particularly in future monitoring.
Expiring business should be adjusted for expected retention levels
This should take account of the following issues:
- Normal level of churn based on average historical experience
- Likely impact of rating levels / rate movements relative to the market
- Any strategic changes such as non-renewal of specific areas
Adjustments should be made for likely changes in premium volumes on
retained business:
- Average exposure growth, e.g. from wage-roll inflation / sum insured
increases
- Consideration should be given to unusual economic conditions that
might make these averages inappropriate
- Any other exposure changes such as limits, line sizes, deductibles etc.
- Any rate increases after allowances for such exposure changes should
follow through as increases to premium volumes
- Currency movements will produce changes in volume in the base
accounting currency.
New business should be allowed for
- Changes to market share
- Influenced by price differentials
- quality of coverage
- broker relationships
- direct marketing / website quality / advertising spend
- Changes to overall market volumes (economic cycles, expanding
levels of coverage etc.)
- Strategic considerations, particularly on a segmental level
- Competition
- Elasticity of demand
- Position in market cycle
Movement analysis: lapses, cancellations, conversion rates.
Reserving analysis in part (v) should suggest appropriate starting point for
projections of future profitability
Note that such projections should consider average expectations such as
IELRs for BF NOT actual experience for the most recent year
Although they should be appropriately adjusted to the relevant rating
environment
Page 9
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Comments on Q1(vi): This was not particularly well answered, with many candidates failing
to suggest issues which can affect new business volumes, and relatively few mentioning how
you should look at future business profitability. Very few candidates gave any consideration
to the key elements of any planning process the expiring volumes and the likely retention,
growth and new business given the current market conditions.
(vii)
Reinsurance
General points
All internal or external models used for reinsurance analysis for planning
should be consistent with those used for capital modelling in order to be
solvency II compliant.
Consider capital implications of reinsurance purchasing.
hire consultants to benchmark any of the aspects below
define regular review of any parameters, perhaps quarterly, with the
process documented for solvency II compliance
Alternatives to reinsurance: derivatives, cat bonds etc.
Technical assistance from reinsurers
Other appropriate actions or measures not covered elsewhere (must be
specific and workable approaches)
Page 10
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Model recovery rates for the historical and planned future purchase
using a stochastic model, e.g. the internal capital model for Solvency II
compliance
The cost of purchase should give some indication of likely recovery rates
based on some assumptions about target loss ratios / capital costs for
reinsurers this can be used as a benchmark to the internal model.
Past recoveries (adjusted for programme changes as necessary) can also be
used as a sense check on the internal model although experience may not
be particularly credible or stable.
External software such as RMS can also be used for the catastrophe
accounts.
Consider potential bad debt issues that might reduce the recovery rate /
increase capital costs
Some allowance should possibly be made for current economic conditions
with defaults arguably more likely at what is currently a low point in the
economic cycle, with additional capital difficult to raise by the company or
its reinsurers.
Historical and current Credit ratings for all reinsurers will be available,
along with market information such as S&P default studies to suggest
likely default rates.
Consideration should be given to any interaction between extreme events
for the company and events that might trigger defaults for reinsurers for
example high CAT losses might be combined with reinsurer default
whereas individual risk losses on EL are unlikely to be significant for any
reinsurers.
Page 11
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Many candidates appeared to be answering a standard "how would you decide on the
appropriate reinsurance programme" question.
(i)
Page 12
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Businesses which are not performing satisfactorily for the seller may become
viable with an alternative management/more efficient management.
SID will benefit from diversification by buying a number of unrelated
portfolios.
In the case of portfolios in run-off, it may cost less to administer several
portfolios together through economies of scale
Diversification could result in reductions in capital requirements for a larger
group of businesses than for each business individually.
By combining businesses with common insureds, SID would have greater
negotiating power in commutations.
Acceptance of portfolios in this manner is core to SIDs business and hence
utilises internal resource (legal departments etc.)
Acquisition of a substantial share of a particular pool of risks may give SID
significant bargaining power to run the business off profitably
It may also accumulate sufficient in house expertise to price and reserve the
portfolios accurately
Cross-selling opportunity.
May be tax advantages. (with reasonable explanation, e.g. arbitrage).
Comments on Q2(ii): A bookwork question which was generally well answered.
(iii)
Page 13
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Risk transfer may be partial, e.g. there may be a cap on the reinsurers
liability, or the reinsurer may only pay part of the claims.
The insurer remains ultimately liable for the claims cost, e.g. if the reinsurer
becomes insolvent.
In some cases, the reinsurer may also administer the claims run-off.
Cover for the policyholder is maintained.
Travel strategy unlikely to be attractive
Mojo is financially strong, so unlikely to need reinsurance (which would pass
profit outside the group).
EL Re strategy unlikely to be attractive
Given these are long tail liabilities, counterparty default risk cannot be
ignored.
Or: EL Re strategy likely to be attractive
Simple solution subject to the reinsurers credit rating being high enough to
suggest that claims will be paid in the long term
Commutations
Insurance (or reinsurance) policies are cancelled with the agreement of both
parties, subject to a return premium, so that no further claims can be made
under the policies.
Active commutation strategies can accelerate the run-off of the businesses.
Mojo would likely attempt to commute both inwards and outwards business.
Could be antiselection as agreement to commutation is at option of insured
Travel strategy unlikely to be attractive
Not practical, as agreement of all policyholders required
EL Re strategy unlikely to be attractive
As insurer is unlikely to agree as may then wish to commute the underlying
business which requires the individual agreement of every policyholder.
Novation
The complete transfer of insurance business from one insurer to another, with
the agreement of all three parties (insured, old insurer and new insurer).
The old insurer is replaced with the new insurer, with no contractual liability
remaining with the old insurer.
The old insurer pays the new insurer to make this arrangement.
Cover for the policyholder is maintained.
Travel strategy unlikely to be attractive
Not practical, as agreement of all policyholders required
EL Re strategy likely to be attractive
Mojos contractual liability completely removed but depends on the terms.
Insurance business transfer or Part VII Transfer
Complete transfer of business from one insurer to another, so that no
contractual liability remains with the original insurer.
Page 14
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Page 15
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Loadings will need to be applied to the best estimate cost to allow for SIDs
profit, contingencies, and expenses, which would differ for A and B
The type of portfolio transfer mechanism may be different for portfolios A and
B.
Transferring company may retain a share of portfolio A
E.g. a large/particularly uncertain claim may be retained (or other example)
One of the transferring companies may continue to do administration,
resulting in different expense loadings.
SID may charge a minimum premium for any transactions to cover its
overheads, or the work required to prepare a quote.
Page 16
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
SID may disagree with the best estimate prepared by the company transferring
the liabilities.
E.g. one company may tend to over reserve, one under reserve. Estimates may
or may not be discounted (or other example).
There may be differences in the nature of reinsurance on each portfolio.
Differences include whether reinsurance is being transferred to SID, the
quality of the reinsurers, and whether there are any disputes with the
reinsurers.
Also whether claims have exceeded or are close to any policy or aggregate
limits
SID may be applying different contingency loadings for each portfolio.
E.g. one portfolio may be considered to be more uncertain, because of:
long tail vs short tail,
e.g. asbestos liabilities, / latency
the quality of data being poor
currency considerations
in run-off or ongoing
any other reasonable suggestion
SID may not want to acquire Portfolio B, but be keen to acquire Portfolio A,
for strategic reasons.
Competition premium will reflect market conditions, that is, willingness of
buyers and sellers to reach a deal.
SIDs costs may be very different for different lines of business due to
synergies with existing liabilities
Similarly, SIDs capital costs may be very different due to different
diversification credits
Consideration should be given to the number of years of business included in
the transfer and the total original liability although a portfolio may be largely
run off, any late stage or latent development could well bear more
resemblance to the original liabilities than the current best estimates
Liabilities may have been assessed on a discounted basis and the choice of
discount rate may vary between the two portfolios
There may be an error in the figures
Comments on Q2(iv): Marks for this part were low in general. Very few candidates
covered all the obvious points, e.g. different methodologies and bases used by the companies,
different level of uncertainty in the outstanding claims (for many reasons) and the impact of
competition on the price or considered the wider issues around the potential strategic or
operational issues for SID. Some candidates concentrated on the possible volatility of the
portfolios and didn't cover anything else although they generally remembered that SID may
not agree with the beat estimates of the liabilities..
Page 17
Subject SA3 (General Insurance Specialist Applications) April 2010 Examiners Report
Overall: Q2 was generally better answered than Q1. Marks for the Q1(v) to Q1(vii) part of
the paper were particularly low, to such an extent that the average mark awarded for Q1,
with 57 available, was lower than for Q2, with 43 available.
Page 18
Faculty of Actuaries
Institute of Actuaries
EXAMINATION
6 October 2010 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes before the start of the examination in which to read the
questions. You are strongly encouraged to use this time for reading only, but notes
may be made. You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2010
Faculty of Actuaries
Institute of Actuaries
Outline the key standards for management arrangements, and any potential
concerns with the current approach, in respect of both regulatory compliance
and good corporate governance requirements.
[10]
(ii)
Describe how your answer to part (i) would change with the adoption of
Solvency II.
[3]
The company has no rate monitoring system in place and has not historically captured
any rating data, although most of the underwriters do have pricing models and rating
guides that they often use in their work. Safetysures underwriters have historically
used benchmark market rate movements which they believe adequately reflect their
book.
The actuarys recommendation that a formal pricing and rate monitoring process be
put in place has met with some resistance. The board feels strongly that underwriting
should be left to underwriters and actuarial staff should focus on reserving and capital
modelling.
(iii)
Outline the key benefits of a formal and well documented pricing and rate
monitoring process.
[8]
(iv)
Suggest ways in which actuaries can add value to pricing and rate monitoring
processes.
[7]
The board accepts that there may be some benefits to actuarial review of the pricing
and rate monitoring processes and has requested a review of their UK Employers and
Public Liability book which the company first underwrote in 2001.
SA3 S20102
The reported results for this book have historically been profitable, but the consultants
reviewing the reserves have expressed concerns about the emerging experience. As
the account is still relatively young they have been using market benchmarks for the
development profiles as well as the rate movements. Relative to these benchmarks,
older years, which they would have expected to have run off, are continuing to show
movements and more recent years have shown an unusual level of claims for the
current stage of development.
The claims department has also raised concerns about the volume of small claims
coming through for this book, which they are under-resourced to handle, and has
suggested imposing higher minimum deductibles.
(v)
The liability portfolios include a number of scheme arrangements with third parties,
who underwrite risks on Safetysures behalf. A number of these schemes contain
profit commission arrangements, under which the third parties receive additional
commission if the scheme meets certain performance criteria. Currently the
underwriters make no allowance for these profit commissions in pricing, reserving or
planning as the performance criteria are set at a level where they would only become
payable if a scheme outperformed its targets.
(vi)
(vii)
Suggest alternative approaches that might allow for profit commissions more
appropriately, with reference to the key factors to consider and any data
requirements.
[19]
[Total 73]
SA3 S20103
[3]
Takaful refers to insurance that is compliant with Islamic law, also known as
Shariah law. Takaful products, which are already well established in parts of
Asia and the Middle East, are increasingly becoming available in Western
countries. A number of major international insurance groups have entered the
Islamic insurance market in recent years.
In addition to the normal management structures present in financial services
companies, Islamic financial institutions appoint a Shariah board. The Shariah
board consists of recognised Islamic scholars. The Shariah board determines
whether the companys products and practices are consistent with Islamic
teachings.
Islamic law forbids the payment or receipt of interest. Investments related to
anything considered unlawful under Shariah law are also prohibited. Contracts
involving uncertainty or speculation are forbidden, as is the use of capital
simply to obtain a return. However, some Islamic scholars are of the opinion
that insurance can be written in ways that adhere to Shariah law. The sharing
of risk within a community is considered to be beneficial to society, and so is
acceptable to Islam.
Shariah law permits the use of capital for social or ethical purposes, and
sharing profits from social or ethical investments is permitted when the risks
are also shared. In addition, it is permissible for a company to be rewarded for
organising the pooling of risk, or for sharing risks with policyholders.
According to most Shariah scholars, Muslims have a religious obligation to
purchase Takaful in preference to conventional insurance.
While many Islamic financial businesses operate on an essentially mutual
basis, new ventures are increasing on a for-profit basis. However,
policyholders are entitled to share in any surplus, and a share of any profits
would typically be given to charity.
Vibe Insurance is a large general insurance company operating only in the country of
Texel. Vibe is a mutual insurer, and specialises in personal motor insurance. Around
5% of the population of Texel are Muslims. There are no Takaful products currently
available in Texel.
The managing director of Vibe has read the article on Takaful. She has asked Vibes
business development team to consider launching a subsidiary to write Takaful in the
country of Texel.
(i)
[1]
(ii)
[5]
SA3 S20104
(iii)
Describe the difficulties that Vibe may face in adapting an existing product
offering to be Takaful compliant
[8]
Vibes business development team has prepared a business plan for a Takaful
business. The business would initially only underwrite personal motor insurance.
The table below shows the premium income, claim outgo and expenses that have been
assumed for the Takaful business. For comparison, Vibes current business plan for
personal motor is also shown. The current plan excludes the Takaful business.
An actuary has been asked to review the Takaful business plan and prepare a report
on the business plan to assist the board of Vibe.
Takaful Motor
2011
2012
2013
Premium
20
100
200
1,200
1,260
1,320
Claims
18
80
140
1,080
1,134
1,188
10
120
126
132
Expenses
(iv)
Describe the matters that the actuary should draw to the attention of the board
in his report.
[13]
[Total 27]
END OF PAPER
SA3 S20105
EXAMINERS REPORT
September 2010 examinations
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
T J Birse
Chairman of the Board of Examiners
January 2010
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
(i)
Nature of business
Scale of business
Complexity of business
Diversity of business types
Geographical diversity
Volume of transactions
Size of transactions
Nature of transactions
Degree of risk of each area of operation
Other appropriate points
Page 2
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Page 3
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
(ii)
Page 4
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Years
Underwriters
Risks
Classes
Page 5
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Page 6
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
(v)
Specific considerations
Mix of business
One key issue is the mix of trades underwritten
This should be considered throughout all years of account as far as the data
allows as mix changes over time could lead to a significantly different
development profile.
The lack of adequate rate monitoring processes could potentially exacerbate
the impact of mix changes, with the potential for the historical experience to
have been benign due to cross-subsidies from areas of business that no longer
make up such a high proportion of the account.
The high early stage development of more recent years compared to the high
late stage development for earlier years suggests that there may well be some
mix change factors which should be accounted for.
Benchmark issues
The benchmark may be inappropriate for a number of reasons
Mix / Class
Length of tail
Out of date
Territories
Coverage
Different claims handling process
Just plain wrong
Page 7
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Discussions with the consultants should indicate the level of potential latency
they have been allowing for in the previous reported results.
Depending on the quality of data systems, analysis of the late stage claims by
type of claim should give some indication as to the source of the late
development.
Failing that, discussions with the claims department about some of the larger
individual cases may give an indication.
Consideration should be given to any changes in policy wording that may
affect development profiles
Although it should be noted that no EL business can currently be written on a
claims made basis
Potential weaknesses in claim estimates
The unusual late stage development could also reflect poor quality reserving
and claims estimation processes
Analysis of the late stage movements should give some indication as to
whether this is the case. If the movements are the result of increases in
reserves for claims already recorded, this would suggest a deficiency in the
claim estimation process,
Whereas late notification of claims would be more likely to indicate latent
exposures
The combination of this feature with the high level of early reserves for more
recent years suggests that claim estimation processes across all years of
account may have moved to a different basis in recent years.
Claims inflation may also have been higher than anticipated.
Legislative impacts may also have increased reserves.
If reserves were discounted in the past, need to know the levels of discount
applied and their changes over time. Need to check that the market data used
for benchmarking is on the same basis.
Other examples of changes to the reserving process, e.g. Levels of prudence
All such changes should be fully investigated as they are critical to any
analysis of the claim development.
Regardless of any changes to processes, some assessment of the
appropriateness of the current claim reserves would be of value
Spot checks on individual claim reserves may assist with this, perhaps using
an independent external claim assessor.
Influx of small claims
EL & PL are low frequency classes so claims volumes would not generally be
expected to be significant.
An analysis of the nature of these claims should be undertaken in order to
understand them better
Page 8
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
If the issues are driven by specific issues different process could be explored
Changing deductibles on PL
Sunset clauses
Different pricing structures
Other appropriate examples
Page 9
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Comments on Q1(vi): Candidates almost universally missed the point of this question, with
most identifying only that it might lead to a degree of understatement for reserving / pricing /
Page 10
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
planning. Very few candidates recognised that the issue with the proposed approach is that
most expectations, e.g. reserves, would tend to include some risks that outperform and other
risks that underperform. As such the proposed approach is only reasonable for a single
scheme in a single year, and when aggregated totals are considered it would clearly be
flawed. Some candidates failed to answer the question asked and described the problems of
using profit commission rather than the problems with the underwriters not making
allowance for it.
(vii)
Page 11
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
The size of the scheme is critical all else being equal, the larger the
scheme is the more stable the experience will be.
For lower frequency business, small schemes could well run largely claim
free over a number of years purely due to good fortune
The level of diversity within the scheme will also have a material effect undiversified schemes could produce a significant risk of accumulations
hitting a particular time period, with other times producing low claim
volumes
The nature of the business covered will also have a material effect, with
some risk types being more weighted towards a volume of stable,
attritional experience than others.
If a risk includes any profit commission sub-pools this needs to be allowed
for as it is the size of each distinct segment which is critical
Any other relevant factors
Grouping of risks
One potential approach might be to group the schemes to produce pools of
data where broadly similar volatility might be expected.
Aggregating the different loss ratios within these pools would produce a more
stable set of data points from which volatility could be estimated.
As profit levels can be significantly different between different schemes
however it may be best to rebase the loss ratios for each scheme to produce the
same averages so that this feature does add to the derived volatility
The grouping of schemes is likely to be a highly subjective process
and may be complicated by some schemes having years of account which
would be expected to show significantly different volatility
perhaps due to start up years where volumes were low as the scheme grew /
other relevant example
Although this method is not perfect, it is relatively easy to implement in
practice and to communicate to underwriters,
and would encourage explicit consideration of the volatility of the account
when underwriting
data requirements to implement this would also be minimal
Volatility model for aggregation
Another method would be to derive a loss model which could be applied to the
specific exposures for each account.
Such a model could estimate the frequency relative to the exposure measure
used along with a severity curve for example
Page 12
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Again some differentiation between risks may be appropriate, with some risk
types having different loss profiles
Risks of each type could be aggregated from a number of schemes for the loss
model to be parameterised.
While this method is potentially more accurate than the alternatives, it does
pose some significant data requirements
Many insurers have not historically captured exposure data at a sufficiently
granular level for analysis of this type
The method would also be harder for the underwriters to manage and maintain
themselves on an individual account basis.
General data requirements on an individual risk basis
Profit commission rate
Threshold at which profit commission becomes payable
Details of any escalation in profit commission with more significant
outperformance
Expected loss ratio for the scheme for comparison with the profit commission
thresholds
Expenses payable to the insurer when making the profit calculation
Policy conditions
Sensible comments about ways of tying in insureds (tie-ins)
Sensible comments about aggregating a number of years in the calculation
(carry overs etc.)
Number of years before any earned commission is released.
Any clawback provisions if experience deteriorates after commission is
released.
Creditworthiness is a potential issue in any clawback
The scope of business which products, distribution channels, territories or
currencies are included/excluded.
Will there be a single pool or several sub-pools?
The duration of the agreement.
When will the profit commission be calculated?
Will the profit commission be paid in a single installment or in several
payments?
Termination terms and profit commission payments after the termination of
the relationship.
Arbitration arrangements.
Profit commission formula.
Sensible comments around appropriate reserves in profit commission formula.
Comments on Q1(vii): This was the most poorly answered question. Candidates almost
universally missed the point of this question, with the majority failing to even recognise that
the key consideration for profit commissions is the volatility of the individual risks. As such,
candidates missed the majority of marks for this question, which considered the extent of the
possible data issues for volatility and how these issues might be resolved in practice.
Disappointingly, the majority of answers to this question were clearly too short for the marks
Page 13
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
available, suggesting that candidates should have known they were missing something.
Few candidates even considered the most basic of practical issues for profit commissions :
the terms on which the commission is set and payable. In spite of the data requirements being
specifically prompted in the question, candidates appeared unable to propose anything other
than the generic data items they would need for e.g. a reserve review.
Overall, this question was highly disappointingly answered for the final paper before
qualification. While this is not a subject that is directly in core reading or a subject that has
been examined before, it is something that candidates should have been capable of forming
sensible answers for based on their understanding of the underlying risks and principles.
Candidates often recognised that one might wish to create a stochastic model or derive
appropriate subjective risk margins. At this level candidates should be able to display higher
order thinking, and anticipate how they would go about e.g. parameterising a stochastic
model what problems they might encounter in practice and how they might resolve them.
A number of candidates went into great detail in terms of the necessary data, however it
appeared they were answering a question about a claims investigation rather than the more
broader points appropriate for a question concerning profit commission.
Some candidates suggested not using profit commission and gave alternatives. This was not
what the question required.
Some students went into great detail about capital allocation methods. These were not
relevant to this question.
(i)
Mutual
An insurer owned by policyholders,
to whom all profits ultimately belong.
Comments on Q2(i): Many candidates only managed half the definition of a Mutual Insurer:
owned by the policyholders but no mention of the profits ultimately belonging to them.
(ii)
Page 14
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
While Vibe is a mutual, it may still price on a commercial basis. Takaful may
provide an attractive additional revenue stream.
Elements of Takaful may appeal to the non-Muslim population, who may
decide to purchase the products,
e.g. policyholders are entitled to share in any surplus.
a share of any profits would typically be given to charity.
certain unethical investments are forbidden.
Comments on Q2(ii): This question was relatively well answered, although there were a
significant number of points on the schedule available for restating points raised in the
question itself and the additional points were identified more rarely.
(iii)
Difficulties
As the first Takaful business, Vibe should expect the authorisation process to
be considerably more difficult than for a conventional insurance start-up.
It is unclear how regulations that have been written to apply to conventional
insurers should apply to Takaful.
The application of tax and other legal requirements may also be less than
straightforward.
Investigations may indicate that these regulations put Takaful at a
disadvantage to conventional insurers, which would affect the competitiveness
and viability of the business model.
The costs of investigating these issues would be in addition to the usual
expenses of starting a business.
A viable business model requires a large pool of potential customers.
It cannot be assumed that all Muslims will follow religious guidance.
Some Muslims do not agree that the Takaful models used in western countries
are Shariah-compliant.
Some Muslims may be prepared to purchase conventional insurance, if the
available products are cheaper than Vibes offering.
Some Muslims may simply choose to go without non-compulsory insurances,
particularly if they have not previously had cover.
In order to price the business, it would be necessary to consider the risk profile
of the potential market and the extent to which this is reflected in premiums.
This information may be difficult to collect.
A potential niche is considered attractive if the market is currently charging a
high premium relative to the risk.
It would be difficult to attract business if conventional insurance premiums for
the groups being targeted are already competitive.
Vibe may be concerned that a Takaful business is not run solely by the
directors, since it must adhere to the rulings of its Shariah board.
Shariah-compliant reinsurance (retakaful) may not be easily available in
Texel.
Page 15
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Business Plan
Premium Comments
Significant premium growth is anticipated for the Takaful product in the first
three years.
Minimal growth is anticipated for the existing personal motor business.
The projected 2013 Takaful premium income appears large relative to the nonTakaful premium, given that Vibe is a large insurer specialising in personal
lines.
However, its not possible to be sure from these numbers.
Loss Ratio Comments
Planned loss ratio for existing motor business is 90% in each year.
Planned loss ratio for Takaful is 90% in 2011, reducing to 70% in 2013.
It is not clear how Vibe will achieve a lower claims ratio for the Takaful
business than the existing business.
Vibe would also need to explain the downward trend in loss ratios from 2011
to 2013.
Alternatively, the high profits may suggest that Vibe believes this product will
appeal to a profitable niche of customers.
Specific features of the likely customer base may make takaful more profitable
e.g. reduced likelihood of drinking
Differences in investment income may account for the differences in pricing
The directors would want to be sure that Vibe has sufficient data to be
confident in this assumption.
The relevant data may be difficult to obtain.
Page 16
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Page 17
Subject SA3 (General Insurance Specialist Applications) September 2010 Examiners Report
Comments on Q2(iv): Too many candidates missed some very easy marks through either
not calculating the expense and claim ratios for each year or making careless errors when
doing so. Weaker candidates seemingly took the figures at face value and commented just on
their implications rather than questioning their validity too.
A significant number of candidates commented that it would be unrealistic for Vibes Takaful
premium income to increase to 13% in 2013 on the basis that Muslims only make up 5% of
the population and therefore the difference would have to be made up from non-Muslims
seemingly missing the point that the 13% applied to Vibes business and not to the total
population.
Page 18
EXAMINATION
27 April 2011 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes at the start of the examination in which to read the questions.
You are strongly encouraged to use this time for reading only, but notes may be made.
You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 A2011
Agency A
Agency B
40
70%
20%
10
10%
10%
Non-Agency Business
(slip system)
50
50%
15%
Total
100
54%
17%
Having seen these figures, Champions CFO has said CHUM should stop doing
business through Agency A so as to improve the syndicates financial performance.
However, CHUMs senior underwriter believes that Agency A improves the financial
performance of the syndicate.
(i)
[8]
(iii)
[4]
[25]
Agency C has provided CHUM with some analysis of potential claim costs, obtained
using a recognised natural catastrophe loss model. Agency C writes $20 million of
premium per year.
Scenario
1 in 5 year loss
1 in 40 year loss
1 in 200 year loss
1 in 1,000 year loss
(iv)
Discuss why the natural catastrophe model may mis-estimate the potential for
large losses from the portfolio.
[8]
(v)
SA3 A20112
[6]
The scheme has considered ways in which these insurance costs can be passed on to
the schemes users. Two alternative ways of charging for the insurance costs within
the hire fees have been proposed differential pricing or a flat-rate fee.
(ii)
(iii)
[8]
[3]
The scheme provider has ruled out differential insurance charges for users. Fees will
however incorporate incentives to encourage users to register online and take up the
weekly or annual option.
(iv)
Outline alternative options for the charging framework and scheme design to
pass on insurance risk to the participants.
[3]
The transport authority has established a captive insurer to take on the insurance risks.
(v)
Explain what a captive insurer is and give reasons why this may have been the
preferred route for insuring the risks of the scheme provider.
[4]
(vi)
(vii)
List the reinsurance options for the captive, setting out the benefits and capital
implications of each option.
[10]
SA3 A20113
The bicycle scheme was introduced on 1 April. It has now been running for six
months. The take-up has been successful and it has been necessary to increase the
number of bicycles by 50% available in the pool. A comprehensive reinsurance
programme was effected when the scheme started with both proportional and nonproportional cover. The results and key information for this business at 30 September
are as follows:
All amounts in 000s
Insurance Liabilities
Net Claims Reserve
700
Net Premium Reserve
400
Total Reserve
1,100
Additional information:
Actual to
30 Sept
1,000
300
85%
Original
Planned
1st Year
1,450
360
70%
Original
Planned
2nd Year
1,950
480
65%
The Finance Director of the captive has asked for an assessment of the projected yearend profitability of the scheme for the insurance company.
(viii) Outline the factors that would be considered in assessing the profitability and
the sources of uncertainty attaching to this assessment.
[10]
[Total 48]
END OF PAPER
SA3 A20114
EXAMINERS REPORT
April 2011 examinations
Introduction
The attached subject report has been written by the Principal Examiner with the aim of
helping candidates. The questions and comments are based around Core Reading as the
interpretation of the syllabus to which the examiners are working. They have however given
credit for any alternative approach or interpretation which they consider to be reasonable.
T J Birse
Chairman of the Board of Examiners
July 2011
Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
(i)
Page 2
Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
The greater volumes of business may also help with data volumes/expertise.
Based on the table the business written by Agency A appears to be profitable
(albeit less profitable than the other business).
Total syndicate profits would be lower if Agency A had not been
underwritten.
The business written by Agency A may have lower capital requirements than
the other Syndicate business.
It may in any case serve to reduce capital requirements for other business
(especially if relatively uncorrelated).
It is possible that Agency A might have generated the highest return on
capital.
Even if Agency A generates a lower return on capital than other activities, it
may still be considered a good use of capital if no superior opportunities are
available.
The relationship with Agency A might be important to the syndicates overall
financial result.
For example, CHUM may be allowed to underwrite Agency B if it agrees to
underwrite agency A (or other example).
Agency A may write longer tailed business on which greater investment
income can be earned.
Agency A might have different investment strategy/experience.
Agency A might have growth plans that improve the financial forecasts of the
Syndicate.
Agency A may boost the liquidity of the Syndicate.
Miscellaneous points that could explain differences: reinsurance programme,
accommodation business, tax
(ii)
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
The contract will specify the period for which insurance can be placed
the classes of business covered
and the policy wordings that are to be used.
Many agencies are paid a percentage of premiums as commission.
This causes a potential conflict of interest for the agency because it has an
incentive to increase premiums without sufficient regard for the profitability of
business.
Many of these agencies were formed by brokers.
In some cases, a company may establish a specialist agency to underwrite
risks on behalf of an insurer.
Some agencies have been formed with specialist risk management functions
in-house to write specialist business on behalf of an insurer.
Miscellaneous points: how they are authorised, whether the agency handles
claims and to what extent, reporting of summarised premium and claims
information.
(iii)
Agency C investigations
Investigate Agency Cs historical performance.
Investigate historical premium volumes.
Consider both the total premium written each year, and how business has
varied from period to period.
It may not be worthwhile for CHUM to consider an underwriting agreement if
the amount of business written is too small.
Alternatively, the amount of business written may exceed CHUMs available
capacity.
High growth rates may show that the agency is a successful business, and so a
good agent for CHUM.
However, operational risk issues may be of more concern for a high growth
company than one with a stable portfolio.
Investigate historical claims costs.
Generic points about projecting to ultimate
These should be adjusted for any rating movements over the period
Consider the degree of variation in historical claims results
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Consider the potential for worse financial performance than has been seen in
the data historically
Large losses are likely to be a particular feature of this type of business as fire
claims for large hotels could make up a significant proportion of the overall
exposure
PML reports, frequency severity modelling, and discussions with agency staff
could be useful here.
Nature of business / business mix
What classes of business do they/are they going to underwrite?
Consider whether the nature of the risk changed over time.
This could mean that the historical data is not an appropriate indicator of
future claims experience.
Consider the location of insured risks.
This may indicate the potential for large losses due to accumulation of risk.
Consider the number of individual insureds covered by the agency
This will indicate whether premium income and claims experience is
dependent on a few large accounts, or there is a good level of diversification
of risk.
This would impact the volatility of claims and premium income.
Conduct some general market research to understand features of the business
written e.g. by interviewing Agency C:
e.g. consideration should be given to local building standards for the territories
covered as this may significantly impact potential risks
e.g. employment practice/court awards for injuries/sensible alternative point.
Agency C expenses, including any profit contingent commissions.
Ideally the expense structure should better align the interests of agency and
underwriter, on both the downside and the upside.
Review Agencys C future plans
Could new business help defray syndicate overheads?
Agency C growth and strategy
Review Agencys C future plans.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Consider the point in the rating cycle for this type of business.
Areas of focus include forecast growth, profitability and portfolio
composition.
It would be necessary to understand the assumptions underlying any forecast
and how they have been derived.
Agency Cs market share should be considered when analysing any growth
forecast
As should the potential growth in overall market volumes (with Africa being
an emerging market with significant growth potential).
Consider whether the agency plans to significantly change its business model.
Agency reputation
Consider the reputation of the agency in the insurance market.
For example, consider whether the agency is known to CHUM staff.
Consider whether the agency is involved in any legal disputes.
Company background how long established, where are offices located, etc.
Reason for agency leaving current underwriter or being interested in the deal.
Consider the qualifications and experience of Agency C staff.
Consider whether the staff currently involved been responsible for historical
results.
Qualitative factors will play a part in CHUMs overall assessment of
Agency C.
Consider the reputation of the agency amongst hotels.
Underwriting results may be better if the agency has long established
relationships and is a dominant player in the market.
A relatively new agency may need to offer competitive rates to establish client
relationships.
Operational risks
Investigate the agencys risk management and assessment capabilities.
Where these are well developed, this would add comfort that the business is
well run and that risks are properly considered
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
However if these are less well developed there is greater scope for enhancing
underwriting quality, further improving any historical performance
Depending on scale and resources, there may also be value to be added by
working with coverholders to improve safety features
Processes and procedures consider whether the operating procedures of the
agency are consistent with CHUMs own policies.
Examples of policies to consider include quality control, safe custody of the
insurers money, issuing contracts on time, settlement of ex gratia claims.
Investigate how Agency C sets premiums.
Consider how CHUM will assess the adequacy of rates offered.
Consider claim settlement procedures.
Consider the claim authorities currently offered to Agency C, for example,
what is Cs authority to settle claims be, and what claims need to be referred to
the underwriter.
Monitoring and reporting issues
Investigate whether Agency C is set up to provide sufficient information to
meet Lloyds reporting requirements.
Extra half mark for mentioning the PMD.
Consider whether the agency will be able to provide the information needed
by the syndicate for monitoring and reporting and in good time.
The required information would include:
Claims data for various purposes, for example, to allow monitoring of loss
settlement, provide reports to reinsurers, monitoring of profitability, year-end
reserving.
Exposure data, for example, to assess aggregations and use in catastrophe
modelling.
Does the syndicate have enough expertise to effectively monitor the
underwriting agent? Extra staff may be required.
Overseas location could cause potential issues with effective monitoring, or at
least add to the resource costs involved
How much management time will be required to oversee the business?
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Syndicate strategy
Consider whether the business has a unique distribution model which allows it
to access business not otherwise available to the syndicate.
Consider whether there are other forms of insurance not currently written by
Agency C that could be sold to their existing client base (particularly
insurance written by other agencies of CHUM).
Consider whether underwriting through Agency C is consistent with the
Syndicates business strategy.
Does CHUM want exposure to African hotels?
Does the business provide diversification from or aggregation issues with the
Syndicates other activities?
What currency is the business written in and how does this fit with CHUMs
business model?
Would writing the business be consistent with the syndicates risk appetite?
Does the syndicate have sufficient reinsurance?
Capital issues
Estimates of historical capital requirements, and therefore historical return on
capital.
Historical variation in profitability should be considered in the context of the
return on capital.
Does the syndicate have sufficient capital (regulatory and economic capital
requirements would need to be considered)
If existing capital is insufficient, can capital be raised at an appropriate rate to
finance this venture
Does the business meet syndicate targets for return on capital?
Opportunity cost of capital is this the best use of syndicate resources?
Other issues
Regulatory/legal issues, for example, consider whether Lloyds is authorised
to write in all the countries that Agency C writes in.
Local regulatory risks for example, could the claims environment change
significantly due to developments in local legal systems.
Political risks
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
What are the premium payment terms and consequent credit risk?
Other valid points ( mark per point, max of 1)
(iv)
Underestimation by Model
All models are uncertain. The results rely on judgements which may not turn
out to be correct.
In particular, little or no data will be available to guide the most extreme loss
scenarios (1 in 1000).
Underestimation of the tail is very common
both in terms of severity and frequency.
Sensible comment about the numbers, such as there is surprisingly little
difference between the modelled claims costs for a 1 in 40 year loss and a 1 in
200 year loss.
Historical data for Africa is also likely to be of significantly lower quality than
the equivalent data for e.g. the US or Europe
The model may not simulate losses for all the perils that the portfolio is
exposed to.
For example, the model may only cover certain natural catastrophes. Other
natural catastrophes such as bush fire may not be included.
Even where perils are included in the model, assumptions might not be
appropriate for the risks insured by Agency C.
Most modelling expertise is focussed on areas with greatest insured risks
(rather than African hotels).
Mapping software is also of significantly greater granularity for developed
world risks and the CAT model may not accurately reflect the specific risk
profile.
This is a natural catastrophe model and does not cover manmade losses, for
example a large fire could be expensive to cover.
CHUM should check that the results were produced using the latest versions
of the catastrophe models.
Models are updated following cats to allow for new data, and this can change
the model estimates.
Climate change effects may also be significantly altering the underlying CAT
risks
Data issues There may have been parts of the portfolio that could not be
modelled due to missing data.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
The portfolio may have changed significantly since it was modelled.
For example, new or lapsed policies, changes in limits, deductibles or terms
and conditions.
Hotel risks can also demonstrate significant variations in underlying exposure
in short timescales (e.g. following major refurbishment works)
Currency fluctuations may significantly alter the weighting of values between
different countries and CAT zones.
Some problems identified with cat models include:
Unmodelled elements of a modelled loss, e.g. storm surge.
Unmodelled parts of modelled policy, for example, any business interruption
offered to the hotel, marine policies for hotel pleasure craft.
Modelling errors.
Model may not adequately allowed for any frequency trends.
Model may not have allowed for severity issues such as demand surge
following a catastrophe.
(v)
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Alternatively, the historical experience may only provide a lower bound on
possible future losses.
Review indicators of possible losses for significant insured risks.
For example, review any surveyors reports and consider PMLs and other
indications of possible losses.
Use this data to perform scenario analysis.
Alternatively a simple simulation model could be produced.
It would be important to consider the location of hotels in the analysis. For
example, if several hotels are part of the same complex they could all be
impacted by a claim.
Repeat the analysis with other proprietary catastrophe models, and consider
the range of results produced.
This comparison should adjust for any differences in loss types covered
Apply a top down approach.
Apply a bottom up approach.
Other third party sources of possible expertise include reinsurer, Lloyds,
brokers, other experts with relevant knowledge
This question was generally reasonably well answered by candidates. Most were able to think
rationally about the numbers presented in part (i) and consider the wider context that might
surround high level numbers of this kind. In part (ii) candidates broadly understood the key
features of binding arrangements, although many appeared to think that the binding
authority was the coverholder rather than the agreement itself.
Part (iii) was well answered by the standards of open ended questions of this manner, with
many candidates displaying the ability to think on their feet and make sensible comments
about potential issues with African business. Overall, this was still one of the lower scoring
sections however, with many candidates simply not generating a sufficiently wide range of
points particularly on strategic points and around wider operational issues with this kind of
deal. For questions of this type, candidates may find it helpful to take a step back to consider
both what companies are looking to accomplish with any business deal and how any deal
might actually be practically implemented. This ability to think in a wider business context is
something we aim to test in SA3, with a view to producing better rounded qualified actuaries
who are capable of adding commercial as well as technical value to their employers.
Part (iv) was again relatively well answered given the open ended nature of the question,
with most candidates identifying the general uncertainty issues with catastrophe modelling as
well as some more specific challenges with African CAT modelling given lower data volumes.
References to the numbers provided were rare however.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Part (v) was less well answered, with many candidates outlining investigations to clarify
attritional losses rather than focusing their attention on large and catastrophe losses.
(i)
(a)
Scheme provider:
(b)
Suppliers:
(c)
Page 12
Scheme participants:
Theft to cover the cost of any payment required towards the cost
of replacement of the bike or key
Damage to cover the cost of any payment required towards the
cost of repair/replacement of the bike or key
Public liability/third party liability to cover against third-party
claims for injury to other persons or damage to other peoples
property following an accident caused by the participant
Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
(ii)
age/sex
cycling experience/proficiency
intended use: commute/pleasure/peak-time/route
casual vs registered users
seasonal use
use of helmet
holds UK drivers license
number of bikes on risk
duration of each journey
distance travelled
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Inadequate data may lead to deficient rates, resulting in:
Underwriting losses
Poor take-up, leading to unsustainable running costs
Attracting undesirable risks, resulting in poor experience and costs
Insufficient funds to meet running costs
Scheme may need to be subsidised by other means
(iii)
Differential
Page 14
More equitable
Avoids subsidising of poorer risks
Reduces the risk of anti-selection
More responsive to underlying risks
More complicated to administer
Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Flat rate
(iv)
A key aim would be to ensure that participants are responsible for a portion of
the cost in the event of loss/damage to minimise moral hazard.
A fee could be charged before the key is issued, and for additional keys issued.
In the event of loss or damage to the bike/key, this fee when combined with
the net insurance proceeds would cover the cost of repairing or replacing the
bike/key.
Casual users (i.e. those that are not registered on-line) could be required to
provide card details before hiring bikes. The amount of the charges for
loss/theft/damage must be available on the payment card, and deductible if the
bike is not returned in good condition
Alternatively casual users could be asked to put a full deposit up, with scope
to have this being more substantial than the flat fees charged for insurance.
In the event of a public liability claim, the insurance taken out by the regional
authority would pay out, but participants could be required to pay the first part
of any such claim, so minimising moral hazard risk.
Participants could be asked to sign terms and conditions requiring them to
observe basic road and bike safety principles e.g. wearing a helmet, observing
traffic regulations
. . . . and in the event that they didnt any personal accident element would be
invalid.
The scheme provider could reserve the right to decline an individual request to
hire due to previous claims/poor track record in maintaining the property
Opt in/opt out choice / sign a waiver.
(v)
To fill gaps in insurance cover that may not be available from the
traditional insurance market.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
(vi)
To allow the transport authority to better manage its total insurance spend.
To enable the enterprise to buy cover directly from the reinsurance market.
To focus effort on risk management.
To gain tax and other legislative or regulatory advantages.
Although tends not to be the primary reason anymore.
In addition to accepting the risks of their parent companies, captives may
also accept external risks on a commercial basis e.g. insuring the third
party suppliers.
Although regulatory benefits would not be possible in this case.
The captive would need to follow the local regulators (e.g. the FSAs)
authorisation process.
This could involve a process similar to the FSA's:
(vii)
Quota Share
May be desirable to spread risk for this new class of business
In return for expertise from reinsurer
Allows writing of more risks for the same capital
can retain a smaller share of a larger number of risks
useful if expecting the portfolio to grow significantly
and hence increase the diversification within its portfolio, reducing the
volatility of the overall result
this would reduce the capital requirement of the captive/improve solvency
ratio
most useful for more predictable risks e.g. damage/theft
administratively simple
commission may help with cash flow
Surplus is only relevant for non-liability non-cycle hire risks
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Excess of loss
Caps exposure to larger risks
Risk xl may be useful for specific larger risks e.g. related to launch date
delivery or website failure
Aggregate xl may be appropriate to cover a collection of bodily injury
claims e.g. if thefts/accidents spiral to unprecedented levels
Cat xl provides cover in the event of flood or windstorm
Stop Loss
Will protect against loss ratio higher than expected
But unlikely to be available at reasonable price
Financial reinsurance may improve liquidity/cashflow and apparent solvency
position.
There would be capital implications regarding credit risk with any reinsurance.
No reinsurance is an option all profit is kept but will require more capital.
(viii)
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
Net premium subject to any changes in reinsurance e.g. increase in nonproportional coverage, if there are an increased number of larger risks
presenting
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, April 2011
many candidates spent time discussing forms of differential charging such as linking
premiums to past experience, in spite of this being specifically excluded.
Questions (v) and (vi) were standard bookwork and were answered well. In part (vii), a
number of candidates went into detail on the nature of the reinsurance contracts written. As
the question only required candidates to list options before detailing the specific benefits and
implications in the situation posed, this additional detail gained no marks. Part (viii) was one
of the lowest scoring parts, although this appeared to be more due to an abnormal number of
candidates simply running out of time. Few candidates made any specific comments on the
numbers provided either.
Page 19
EXAMINATION
5 October 2011 (pm)
Enter all the candidate and examination details as requested on the front of your answer
booklet.
2.
You have 15 minutes before the start of the examination in which to read the
questions. You are strongly encouraged to use this time for reading only, but notes
may be made. You then have three hours to complete the paper.
3.
You must not start writing your answers in the booklet until instructed to do so by the
supervisor.
4.
5.
Attempt both questions, beginning your answer to each question on a separate sheet.
6.
SA3 S2011
The good people of Sunland have had enough of SunInsure. I believe that SunInsure
has become inefficient because it has no competition, and so employers are paying
higher premiums than are necessary.
I am proposing that private insurance companies be allowed to enter the employers
liability insurance market. Employers will be able to choose whether to purchase
insurance from a private insurer or from SunInsure, which will continue to operate as
it does now.
Private insurers will be free to decide what premiums to charge. Private insurers can
vary the premium charged to each employer based on an individual risk assessment.
Since private insurers set premiums on a funded basis, the new arrangements will
provide a high level of security to employers and to injured employees.
I believe that this scheme will reduce employers liability costs for the businesses of
SunLand.
SA3 S20112
(i)
State the costs that will need to be covered by employers liability premiums
charged by:
(a)
(b)
The Minister said I believe that this scheme will reduce employers liability costs for
the businesses of SunLand.
(ii)
[10]
Describe the practical issues that will need to be considered to assess whether
the plan will work in practice. Your answer should include reasons why the
issues are important.
[20]
[Total 34]
SA3 S20113
All of these are priced using standard book rates with the exception of the fleet
insurance which is experience rated.
(i)
Discuss how the actuary might assess the expected level of profit ceded on
each of the lines of insurance purchased and what data might be used to
support these assessments.
[19]
[2]
(iii)
(iv)
Discuss the factors that should be taken into account when advising on the
capital requirements for this new insurance subsidiary
[10]
(v)
Discuss the administrative issues that should be taken into account in setting
up a new insurance subsidiary.
[3]
In light of the various changes in its business, Manufast is also considering adding
product liability to its insurance coverage. It has asked the actuary to advise on this as
part of the considerations of setting up the captive.
(vi)
(vii)
(viii) List issues that may be encountered with product liability claims.
END OF PAPER
SA3 S20114
[7]
[11]
[4]
[Total 66]
EXAMINERS REPORT
September 2011 examinations
T J Birse
Chairman of the Board of Examiners
December 2011
Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
dynamics which should also be of value to candidates when dealing with different
stakeholders in their professional life.
Again, some examples of this failure to think more widely on the current paper are below.
As in every subject, there is a need to employ basic exam techniques such as well structured
answers and effective time management.
Comments on the September 2011 paper
Overall performance on this paper was reasonable, as reflected in the above average pass rate
for this session. Performance on each of the questions was similar, with the more unusual
question 1 appearing to have sufficient depth of content in the question to allow competent
candidates to respond to an unusual situation.
On question 1 however, some candidates did not seem to understand fully the nature of
funded / PAYG cover in spite of the detail given in the question. Even where candidates did
understand, only the better candidates displayed an ability to think through the full range of
implications of different funding bases to the various stakeholders, although most candidates
were good on more practical and generic issues.
Candidates are advised to take the time to consider scenarios presented in SA3 papers and
think about what is happening throughout the full process and for all stakeholders. This
consideration should lead to generation of the wider points necessary to demonstrate higher
order skills and obtain a high mark in this paper.
In question 1 part (ii), some candidates discussed the entire press release rather than the
immediate statement before this section of the question. In question 1 part (iii), a number of
candidates discussed solutions where the question only asked for details of the issues and
their importance.
In question 2 part (i), many candidates did not correctly identify that the question considered
expected rather than past profits and so missed most points available for issues relating to
changes in risk. In question 2 part (iii) a number of candidates failed to mention Solvency II
in spite of this being very clearly indicated within the question.
More generally on question 2, the better candidates structured their answers well and
considered issues relating to each business line in turn rather than providing generic answers
across all lines. This generated more points and tied their answers more closely to question
specifics, which is highly advisable exam technique for all papers, particularly SA3.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
(i)
Premium Components
(a)
SunInsure Costs
Premium needs to cover:
Expected claim payments during the coming year (regardless of when
the accident occurred)
SunInsures expenses during the year
Costs can be net of investment income earned during the year
(b)
Candidates would have benefited from a clearer articulation of claims costs and timings
under each of the two systems. Many candidates failed to discriminate between costs PAID
for SunInsure and costs INCURRED for private insurers.
(ii)
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
Scheme viability
Residual Funding Issues:
Need to consider how claims for prior accident years will be paid.
SunInsure does not have any assets to pay these claims, as it collected
premiums on a PAYG basis.
Under the PAYG model, only employers that remain with SunInsure will need
to pay for these claims.
The greater the number of employers leaving SunInsure, the higher the
premiums needed for remaining policyholders.
These high premiums will encourage even more employers to switch to
private insurers, leading to further price increases and lapses.
If SunInsure loses all its policyholders it will be unable to pay claims, meaning
workers will not receive compensation.
Government may be called upon to pay for these liabilities.
Possibly a separate levy could be made on all employers to cover historical
liabilities.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
May be a poor outcome for workers if employers may purchase inferior cover.
Need to make sure private insurers are incentivised to return workers to work
(optimal for workers and society) rather than just minimise cost.
SunInsure will need to be regulated too.
Private insurers will need to understand the level of political
interference/oversight in the market.
The best candidates recognised that the key practical issue was the potential gap in coverage
caused by switching from SunInsure to a private insurer. If SunInsure was to cover incurred
claims this would have a knock-on effect as the costs would have to be met by the remaining
policyholders only which in turn would exacerbate their funding problems.
Most candidates covered the more practical issues such as lack of data, Regulation and
systems and personnel requirements although not usually in sufficient depth to score well.
(i)
The experience of the 6 classes of insurance will have seen some changes in
claims experience over the last 15 years due to the companies expansion,
especially those related to processing, which has driven a large proportion of
the expansion, i.e.
EL, Business Interruption and PL
Some of the other classes will not have been impacted as much.
The changes in claims experience will have to be analysed, and if there have
been nil claims for any classes this will prove difficult.
Also, where classes would be expected to be exposed to spike or catastrophe
losses volumes of these claims may be low.
Claims should be analysed in terms of claims frequency, severity, causes, and
trends.
In each class they would need to consider relevant rating factors and exposure
measure.
Fleet Insurance
Exposure measure in this case will be vehicle years.
The experience over the past 15 years should be a good guide allowing for the
marginal increase in staffing levels, and therefore marginal increase in
vehicles being used. Although it should be fairly easy to get this accurate data
from the company itself.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
Even if number of vehicles is similar the average mileage per vehicle would
need to be checked, especially if changes in processes have meant changes in
types of vehicles used and distances of distribution.
The more granular the claims analysis the better.
This can be achieved by splitting by:
Vehicle type
Claim type (bodily damage/property damage/ TPL)
Size of claim (attritional/large/catastrophe)
(the benefits of such analysis will be being able to identify the differing levels
of inflation required especially between PD and TPL, and between attritional
and large claims)
Employers Liability Insurance
The exposure measure to use here would be payroll, which would be easily
available.
Although they would need to allow carefully for the amount of salary inflation
over the last 15 years as this will significantly increase the likely claims sizes.
Again the experience over the past 15 years may be a useful starting point for
looking at attritional type claims,
as long as the marginal change in staffing has been even across all employee
types,
and that there has been no significant changes in working conditions, and
health and safety.
Rating factors would need to be considered in terms of any changes to
processes impacting on types of industrial diseases which may arise, e.g. have
innovations increased the likelihood of industrial deafness, or chronic
obstructive pulmonary disease for example?
It may be difficult to say much about the likely impact of such latent claims,
given you only have 15 years data.
But could benchmark against industry data especially for companies using
similar material & processes.
They will need to allow for any large /abnormal claims in the data, or lack
thereof.
They changes in processes could have also resulted in a change in the mix of
staff and hence payroll, so an analysis of payroll by skill types would help
identify change in exposures.
Page 10
Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
Commercial Fire
Exposure measure sum insured
Manufast has tripled its output in 15 years, so they will need to check whether
this has been achieved with increases in manufacturing sites even if the
staffing levels have only marginally increased.
This will dictate how different the exposure change would be.
The rating factors would need to be considered in terms of:
As in other lines, the analysis would need to consider any large single fire
claims in the past data. If these do not exist in the data, they could look at
market statistics for similar types of operations to see if the premium loadings
are appropriate for expected large losses.
Business Interruption
Exposure measure would most likely be turnover or profit.
This could have been volatile in the past 15 years.
The fact that the company has expanded 3 fold in the last 15 years will need to
be factored into the analysis as this will result in larger claims from such
cover.
This type of loss will only occur after a major loss, and as such the firm may
not have any in their claims experience to date,
Although this is likely have been allowed for in their premiums.
Given its expansion it is likely that the company have changed their BCP
plans over the last 15 years and as such the premiums for such cover may
appear inflated.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
The fact that the firm have improved processes may mean that the new
processes are more difficult to replace/restart etc., and this will need to be
allowed for.
Have they specialised e.g. do they do different bits of a process at different
sites with dependencies between sites so that fire in one site prevents others
from operating effectively.
How many different sites do they have & safety processes (overlap with
commercial fire)
Are stocks held separately
How specialised is the machinery can it be replaced relatively quickly or
does it need to be built from the ground up
What stock levels do they operate with / how long could they continue to trade
for using stock products
How specialised are the products i.e. can customers just switch to someone
else leading to long term consequential loss of business
What coverage terms are in place indemnity periods, retention of part of the
claims costs
Trade type often used as a rating factor
Contract terms with suppliers / break clauses / penalties etc.
Goods in transit
Exposure measure would be sum assured for shipping, number of journeys or
overall turnover.
Would need to consider relevant rating factors:
Method of transport
Distance travelled
Frequency of transit
Internal/external shipping
Retention of an interest in the goods shipped
Choice of packing method
Use of in-house / contract delivery teams
Recovery potential from third party shippers / transfer of liability
Salvage potential for goods damaged in transit
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
But this would depend on the nature of the expansion and process changes
which have taken place.
Public Liability
Exposure measure would be turnover.
Would need to consider relevant rating factors:
Number of premises
Number of external visitors
Environmental exposure
Excesses
Deductibles
Policy limits
Territories covered (based in UK but potentially has sites outside?)
The experience now is likely to be very different from that 15 years ago, due
to potentially increased floor space, processed used, number of external
contractors etc. As such these will impact on claims experience likely in the
future. So analysing trends in claims experience relative to square footage/
number of contractors as well as turnover will be important.
A number of candidates suggested looking at insurer FSA returns to identify expected profit.
It is unclear how this would be of use unless this was the insurers only customer.
(ii)
(iii)
Advantages:
Retains insurance profit within the group, which could potentially improve
profitability for the consolidated group.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
Gives them direct access to the reinsurance markets with all the associated
expertise.
Disadvantages:
Complex to set up
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
o If they chose the standard formula and opted for the simplified basis
the captive would only be allowed to underwrite risks for entities
owned by the parent.
o The governance requirements would increase and the captive would
need to develop policies and systems around such things as
transparency, risk management and compliance functions.
(iv)
The capital requirements will firstly depend on whether the captive will
only be used as a pure captive, i.e. writing only business for the parent, or
whether it will write business outside of the group.
As such it is likely that the capital requirement for a pure captive will be
less than that for an independent trading entity.
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
To assess the likely quantum of capital required they will need to look at:
o
o
o
o
o
o
o
o
o
o
o
o
o
o
o
o
o
They will also have to think about the requirements placed on captives
from Solvency II and how this may change the capital requirements.
The captive will need to consider whether it will use the standard formula
or an internal model to calculate its SCR. This will depend on the size and
complexity of the writes being underwritten in most cases.
The best candidates recognised that they needed to consider both the general issues relating
to capital required (line of business, reinsurance etc.) as well as issues specific to this
subsidiary being a captive.
(v)
When setting up a new subsidiary there are many administrative issues that
need to be considered as part of the application process.
Policy administration is this going to be handled internally or outsourced? If
internal what administration system
Policy wordings
Claims management is this going to be handled internally or outsourced?
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
Product liability insurance indemnifies the insured against legal liability for
the death of, or bodily injury to a third party, or for the damage to property
belonging to a third party, that results from a product fault.
The basic benefit provided by such liability insurance is an amount to
indemnify the policyholder fully against a financial loss.
This benefit may be restricted by:
The perils covered will depend on the nature of the products being
manufactured, but may include
faulty design,
faulty manufacture,
faulty packaging,
incorrect or misleading instructions
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Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
(vii)
Pricing issues:
Once a technical risk premium has been estimated would need to allow
for:
o
o
o
o
o
o
o
o
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Commissions
Expenses
Profit
Contingencies
Tax
Reinsurance costs
Capital requirements
Investment return
Subject SA3 (General Insurance Specialist Applications) Examiners Report, September 2011
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