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INSTITUTE AND FACULTY OF ACTUARIES

EXAMINATION
21 April 2015 (pm)

Subject CA1 Actuarial Risk Management


Paper Two
Time allowed: Three hours
INSTRUCTIONS TO THE CANDIDATE
1.

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.

Mark allocations are shown in brackets.

5.

Attempt all seven questions, beginning your answer to each question on a new page.

6.

Candidates should show calculations where this is appropriate.


AT THE END OF THE EXAMINATION

Hand in BOTH your answer booklet, with any additional sheets firmly attached, and this
question paper.
In addition to this paper you should have available the 2002 edition of the Formulae
and Tables and your own electronic calculator from the approved list.

CA12 A2015

Institute and Faculty of Actuaries

Outline reasons why an individual may purchase life insurance that is not the most
appropriate for their needs.
[5]

A multinational group has recently acquired a subsidiary company that is based in a


foreign country. The subsidiary sponsors a defined benefit pension scheme.
(i)

List possible disclosure requirements for the multinational groups accounts in


respect of the defined benefit pension scheme.
[4]

Following the acquisition, the pension scheme has been closed to future benefit
accrual. The multinational groups draft accounts show a materially different position
in respect of the pension scheme, compared to what was shown in the subsidiary
companys last set of accounts before the acquisition.
(ii)

Outline possible reasons why the accounts show a materially different


position.
[4]
[Total 8]

A large bank is about to launch a new product designed for sophisticated investors.
The product will involve direct investment in a number of markets, together with
associated derivatives.
The bank also intends to offer an insurance policy linked to the new product so that
investors who take out insurance will receive protection against large falls in the value
of their holding in the new product.
When setting the premium rates for the insurance policy, the bank has used advanced
stochastic techniques to model a range of financial outcomes. This model is only
accessible to and understood by a small specialist team within the bank and is
therefore treated as a black box by all others in the bank.
The results of the model suggest that the bank will be able to invest the insurance
premiums in such a way that the invested premiums will be almost certain to meet any
claims. The Chairman of the bank interprets this to mean that this insurance policy
can, in effect, achieve guaranteed profits.
Discuss why it may not be appropriate for the Chairman to accept the results of the
model in this way.
[9]

CA12 A20152

(i)

(a)
(b)

Define longevity risk.


Explain why an individual might want to transfer this risk.
[2]

(ii)

List the four main providers of benefits to an individual

[2]

(iii)

Describe how these providers can help individuals by sharing the financial
risks associated with longevity, commenting on how effective these
mechanisms might be for transferring longevity risk over the next fifty years.
[7]

(iv)

Suggest how longevity risk for a defined benefit pension scheme might be
transferred within the alternative risk transfer market, explaining why
investors might wish to accept this risk.
[3]
[Total 14]

A bank is about to set up a new subsidiary company that will sell life insurance
products.
(i)

Outline why a new life insurance company will need capital.

[6]

(ii)

Explain why the banks insurance subsidiary will need separate capital from
its parent company.
[2]

(iii)

List four ways the bank could fund the subsidiarys capital requirements.

[2]

(iv)

Describe how a regulator might set a minimum capital threshold for the
subsidiary.

[3]

Five years later the subsidiarys capital has fallen below the required threshold agreed
with the regulator.
(v)

Describe the actions that the regulator can take to address this situation.
[4]
[Total 17]

An insurance company intends to offer a contract to individuals who are currently ill.
The insurance company will pay medical and care costs relating to the current illness
in return for an initial single premium.
(i)

Discuss the risks that the company would be taking on.

(ii)

Discuss how the underwriting process could be used to assess/price the risks.
[7]

(iii)

Describe other management tools that the company could use to control these
risks.
[4]
[Total 19]

CA12 A20153

[8]

PLEASE TURN OVER

An insurance company is to provide insurance for passengers travelling through a new


city airport which opened six months ago.
The premium for the insurance policy will be paid by the airport at no cost to
passengers. This is an incentive to encourage passengers to travel through this
airport, rather than travelling through nearby alternative airports which have been
established for some time.
The airport has considered the risks which could be covered by the insurance policy
and decided that the following risks will be covered:
1. Indemnity for the loss of, or damage to, luggage for every passenger, if it
occurs at the airport, up to a maximum payout of $10,000 for each passenger.
2. A payout of up to $100,000 on death or injury if there is an aircraft incident
on flights arriving at, or departing from, the airport.
(i)

List other risks which could have been covered under this insurance policy.
[3]

(ii)

Describe possible sources of data, and their limitations, for the risks of
luggage being lost or damaged.

[6]

(iii)

Outline how the insurance of luggage being lost or damaged could be priced,
assuming that detailed credible data was available.
[10]

(iv)

Discuss reasons why providing this insurance cover may not encourage
passengers to fly from the airport.

(v)

[4]

Explain how the low likelihood risk of a plane with over 300 passengers on
board crashing at the airport could be managed by the insurance company. [5]
[Total 28]

END OF PAPER

CA12 A20154

INSTITUTE AND FACULTY OF ACTUARIES

EXAMINERS REPORT
April 2015 examinations

Subject CA1 Actuarial Risk Management


Paper Two
Introduction
The Examiners Report is written by the Principal Examiner with the aim of helping
candidates, both those who are sitting the examination for the first time and using past papers
as a revision aid and also those who have previously failed the subject.
The Examiners are charged by Council with examining the published syllabus. The
Examiners have access to the Core Reading, which is designed to interpret the syllabus, and
will generally base questions around it but are not required to examine the content of Core
Reading specifically or exclusively.
For numerical questions the Examiners preferred approach to the solution is reproduced in
this report; other valid approaches are given appropriate credit. For essay-style questions,
particularly the open-ended questions in the later subjects, the report may contain more points
than the Examiners will expect from a solution that scores full marks.
The report is written based on the legislative and regulatory context at the date the
examination was set. Candidates should take into account the possibility that circumstances
may have changed if using these reports for revision.
F Layton
Chairman of the Board of Examiners
July 2015

Institute and Faculty of Actuaries

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

General comments on Subject CA1


This subject examines applications in practical situation of the core actuarial techniques and
concepts. To perform well in this subject requires good general business awareness and the
ability to use common sense in the situations posed, as much as learning the content of the
core reading. The candidates who perform best learn, understand and apply the principles
rather than memorising the core reading.
The examiners set questions that look for candidates to apply the principles specific to the
situation set out in the questions, having read the question carefully. Many candidates gain
few marks by writing around the subject matter of the question in a more general fashion.
Detailed specialist knowledge is not required and nor is very detailed development of
particular points.
Good candidates demonstrate that they have used the planning time well to understand the
breadth of the question and to structure their answer appropriately this is a big advantage in
making points clearly and without repetition. This also enables candidates to use the later
parts of questions to generate ideas for answers to the earlier parts.
Time management is important so that candidates give answers to all questions that are
roughly proportionate to the number of marks available.
The comments that follow the questions concentrate on areas where candidates could have
improved their performance. Candidates approaching the subject for the first time are
advised to use these points to aid their revision.
Comments on the April 2015 paper
The general performance was lower (as reflected in the lower pass rate) than in September
2014 but within the usual range.
It will be seen that some of the points below are shown in bold text. These are the key points
and additional credit was granted where these were made clearly.
The comments that follow the questions concentrate on areas where candidates could have
improved their performance. Candidates approaching the subject for the first time are
advised to use these points to aid their revision.

Page 2

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

Policyholder may not be aware of what products are available.


Policyholder may have a lack of understanding of own needs
And not anticipating likely changes in needs.
Policyholder lack of financial awareness/education may mean they cant match
products to needs.
Policyholder greed e.g. see high returns but ignore the risks.
Distributors independent intermediaries are more influential than say a stall at the
supermarket.
This is exacerbated by the likelihood of independent intermediaries pushing
products with higher commission.
It may also be that a competitors product is more suitable but the intermediary would
sooner take the business.
Distributor may not have the knowledge required to identify the most appropriate
product
Or may offer misleading information.
Suitable product may not be available.
Suitable product may be unaffordable.
Suitable product may not be available as a standalone product i.e. only available as
part of a bundle.
Legal requirement to take a certain policy, e.g. fund must be used to purchase an
annuity.

Generally well an answered, with better candidates coming up with a wider range of reasons.

(i)

Assumptions used
Actuarial method used
Value of liabilities accruing over the year
Increase in the past service liabilities over the year
Investment return achieved on the assets over the year
Surplus or deficit at the end of the year

Page 3

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

Change in the surplus or deficit over the year


Benefit cost over the year in respect of any directors
Membership movements
Value or and / or type of assets held
Expenses of the scheme
Extreme events or experience in the period
Prospective risks of the scheme

(ii)

Closed to benefit accrual


There may be no contributions to the pension scheme following closure to
benefit accrual.
Although deficit contributions may continue following closure.
If the link between pension and salary has been broken this may have reduced
the liabilities changing the funding position.
There may also be changes to benefits before retirement.. This may impact
immediately on the cash flow reported.
May need to account for the scheme on the basis of insurance company
pricing, rather than treating as a going concern.
Different country
Primary impact will be due to the difference in accounting rules, which
may change both how figures are calculated and presented.
May place different emphasis on the relative importance of balance sheet and
income statements.
Different methodology may apply, for example smoothing of results.
Different statutory assumptions, or acceptable assumption ranges may apply.
The disclosure requirements, i.e. information to be shown, may be different.
If based in a different country, with a different currency, the results may
be subject to fluctuations in exchange rates
Which could relate to the currency benefits are paid in, and the currency of
pension scheme investments both of which may differ to the reporting
currency.

Page 4

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

General differences
There may have been other significant events, such as transfers of members,
impacting the accounts, e.g. part scheme buy-out.
General experience may lead to different results, for example if asset return
had been strong over the year.
Previous results were incorrect e.g. due to model errors.
Changes in market conditions may lead to significant differences in
assumptions which may also impact on the accounts.
This question was answered well by most candidates with most scoring the majority of marks
available.

The chairman is unlikely to be a member of the specialist team responsible for the
modelling
As a result the chairman may be treating the model as a black box.
He may find it very difficult to interpret or understand the model and its output.
Or may have relied solely on the advice of others, including experts in those areas
and so he may have no way of sense checking the reasonability of the output or
challenging basic assumptions.
An independent peer review can provide assurance on the quality of the results.
These experts will have a vested interest in the use of the model (bonuses etc.) and so
may underplay the risks.
Models are generally parsimonious, so the model may contain errors due to the
simplifications taken, or not reflect basis risk.
They also may not be able to effectively communicate the risks in a way that the
chairman can understand.
Full appreciation may require a lot of output, which adds to the problems with
understanding.
Given the detail and complexity, the chairman may end up assuming that it must be
right blinded by science and presentation.
In any event, it is likely that many assumptions will have been made; together with
assumptions about correlations.

Page 5

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

It may be difficult to appreciate the significance of individual assumptions. In


particular the most significant factors may not be appreciated.
If key assumptions are fundamentally wrong in some way there will be problems.
In particular subjective assertions on the efficiency of markets or on the assumption of
rational behaviour (i.e. ignoring fear and greed) may be flawed.
Some assumptions may be hard to model. For example default risks or behaviour of
sovereign debt.
Many such assumptions will require probability distribution functions. These can be
very subjective and hard to get right.
The use of distribution functions can mean that low likelihood but high impact
risks are not fully appreciated. This is especially relevant given the aim for no risk,
hence big shocks could be very serious.
To fulfil the no risk aim of the contract may require hedging and/or the use of gearing.
In particular, assumptions on money market interest rates will be needed. If these
assumptions are significantly wrong or if markets become illiquid hedging wont
work and huge risks could arise.
Essentially, risks wont be appreciated if the assumption about being hedged isnt
true.
In particular, it may be difficult to assess the circumstances under which hedging
may fail and hence the risk exposure.
It may not be possible to hedge some of the assets underlying the product
Hence approximate hedging may be needed; e.g. using indices to match an actual
portfolio or if commercial products are held e.g. a fund of funds approach.
Likewise it may be difficult to assess and hedge any currency exposure.
Similarly, default and counter-party risks could be significant and they are hard to
hedge.
The institution may not be certain as to what it is actually insuring. For example, will
the loss be solely related to the price of the new product or its use in combination with
other assets what is it being sold as?
Even if the premiums do meet claims costs, they may not meet expenses/etc so the
policies may not be profitable.
Generally disappointing answers. Few candidates mentioned the main points that the
question was asking for, rather focusing on modelling generally.

Page 6

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

(i)

(a)

Longevity risk is the risk that an individual lives longer than


expected

(b)

This risk is important: risk that the individuals savings are used up
while they are alive so unable to maintain desired standard of living.
To the individual this risk is non-diversifiable, so transfer is best way
to manage it.

(ii)

the State
Employers or groups of employers
Individuals
Financial institutions or other corporations

(iii)

Annuities sold by financial institutions (e.g.) life insurance cos


Widely established market with capacity and competition.

This packages investment risk with longevity risk.


Insurance company can hedge investment risk so longevity is main risk in
pricing.
Regulations, compensation schemes, etc help ensure that the risk transfer is
effective.
Often perceived as expensive because of long life expectancies (approx. =
payback period).
People often unwilling to buy indexed annuities which limits effectiveness at
transferring the risk.
State pensions/benefits.
Often flat-rate or targeting subsistence level so incomplete risk transfer.
Sometimes inflation protection provide through automatic or discretionary
increases.
But often partially salary related or means-tested top up.
A state-financed health service will reduce the individuals healthcare costs,
especially at very advanced ages.
Often pay-as-you-go financed so perhaps less effective if not sustainable
as dependency ratios increase, and state cuts provision.
Though states ability to redefine benefits /increase retirement age may allow
it to target the most significant risks.

Page 7

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

Employers - occupational pensions.


Defined benefit plans were relatively common in 20th century in developed
countries without extensive state pension (e.g. UK, USA) with employers
assuming the longevity risk.
Employer (to some extent, at least implicitly) provides capital to support the
risk that has been transferred to pension scheme.
Coverage now generally limited to public sector and medium/large private
sector employers.
Trend has been for employers to close schemes as unwilling to accept the
risks.
Often replaced by defined contribution schemes which dont transfer longevity
risk.
Though DC schemes do provide an easily accessible savings plan which can
be used to purchase annuity at retirement.
If the employer becomes insolvent all benefits may not be protected or funded
(50 years is a long time).
Individuals by informal family support.
Children or extended family providing services gratis (or in return for
inheritance).
Historically the most common mechanism before development of the 3 above
Somewhat less common recently as wider mobility means children may not be
able to support parents.
Also increasing female participation in employment reduces the time available
for them to care for elderly.
And reduced family sizes reduces the likelihood of a child being
available/willing to provide support.
Though it is possible for children to subcontract the services if they cannot
provide support themselves.

(iv)

ART mechanisms include longevity swaps and bonds


The issuer makes payments linked to the schemes actual mortality
experience, or a longevity index.
i.e. if schemes experience is that people live longer so its benefit payments
are higher, then the issuer will pay more.

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Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

In return the scheme makes payments based on a defined mortality index


usually adjusted upwards to represent the premium for the risk transfer.
In the case of a bond, these are discounted to give the purchase price paid at
outset.
With a swap, there will be a regular process for comparing actual/expected
and posting collateral.
This risk may be attractive to investors for diversification
because it is uncorrelated to other holdings in their portfolio.
Or it may be negatively correlated if other holdings will be more profitable in
the event that longevity increases.
Investors may be able to make a profit through taking advantage of a
regulatory arbitrage.
For example, investments in healthcare suppliers.
Also the risk may be rewarded if the pension scheme is willing to pay a
premium for the risk transfer.

Part (i) was generally well answered; most candidates got the definition correct, better
candidates gave sufficient detail in (b). Part (ii) was well answered with most scoring full
marks. Part (iii) was answered reasonably well, but the better candidates managed to focus
on each of the four parties in a structured way. Part (iv) was answered reasonably well with
most mentioning longevity swaps but the better candidates went into more detail and had
considered other ideas.

(i)

Capital Management involves ensuring that an insurance company has


sufficient solvency and cashflow to ensure its future growth aspirations can be
met in all foreseeable circumstances.
The insurance company will require working capital a cushion against
fluctuating trade volumes
The company will also need start up capital to obtain premises, hire staff,
purchase equipment etc. It will need to set up suitable management systems to
administer the liabilities, collect premiums, etc.
An insurance business cash flow pattern is that new business costs in selling a
policy occur before premiums are received creating a cash flow strain
especially for regular premium. In the interim it will hold capital to meet the

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Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

expected claims/expenses, both for future periods of insurance against which


premiums have been received, and for claims already incurred but which have
yet to be settled.
But there is a possibility that the event leading to payment will arise before the
provider has had time to accumulate sufficient funds from
premiums/contributions to pay the benefits. There is thus a need for additional
capital to smooth out these fluctuations, that is not repaid when the initial
contracts terminate but is rolled forward
There may also be a statutory or regulatory requirement to hold a
provision for the future liabilities in excess of the best estimate value of
the future outgo
Paying commission to brokers/intermediaries will use up a high proportion of
initial premiums this will need to be met from the start up capital
If the company decided to invest the premiums in a portfolio of assets that
didnt replicate the liabilities they would need to hold more capital
The government/regulator will want to ensure that insurance companies have
adequate capital so that financial promises made to members of the public are
kept. It will also want to avoid one insurance failure reducing confidence in
other insurance companie; or in the countrys wider financial services sector
Insurance company will need capital to demonstrate financial strength to
policyholders, rating agencies and providers of capital.
The level of guarantees in a product will also influence the level of solvency
margins the regulator will require and therefore impact on capital requirements

(ii)

In theory the subsidiary could simply draw down from the banks capital when
it needs resources.
But the bank may not be willing/able to support the subsidiary when it
becomes necessary. Therefore, usually there is a legal requirement for
subsidiary companies to have sufficient capital to trade independently. And
also there is likely to be specific legislation on insurance companies imposing
capital requirements.
Also, the banks capital requirements will be suitable for the banking industry
and may not be adequate for insurance
To allow the bank to operate independently of the bank in the case that the
bank gets into financial difficulty.

(iii)

Page 10

Fund from banks own profits/surplus


Raise cash from a bond issue

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

Subordinate inter-company loan from bank


Raise cash from increasing the amount of equity available (shares)
Sell other parts of the business or property

(iv)

The regulator will monitor the adequacy of the provisions that the provider
sets aside against future liabilities. It may even prescribe the basis
(methodology and assumptions) by which these amounts are calculated.
Given that the future is impossible to predict, the regulator will require that the
provisions will contain margins above those that might be assumed on best
estimate basis.
The minimum capital requirement can be a highly prescriptive, prudent
valuation basis
The minimum capital requirement could be a simple model based in industry
average ratios
The minimum capital requirement could be an absolute minimum monetary
amount, e.g. 10m
Or it can be established on a best estimate basis with substantial additional
capital as a buffer for general adverse experience
Or a combination of these two approaches

(v)

There are regular reporting requirements that enable the regulator to monitor
the financial position of the company and it is probably this reporting that has
shown the insurance company to be below the threshold.
The regulator would expect the company to establish a recovery plan to get
above the threshold; and this will be monitored closely by the regulator
The regulator could actively be involved in understanding what the insurance
company is doing on a day by day basis; e.g. investment purchasing
This could involve the insurance company needing to get some actions
(anything around strategy as an example) signed off by the regulator as well as
the normal board review
The regulator could decide to close the life insurance company to new
business; so that new policyholders are not entering a fund whose solvency
may be in doubt
If the provider was closed to new business it will still have outstanding
liabilities but in these circumstances it should be able to make significant cost
savings which would improve the position

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Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

There would also be a release of capital that would have been tied up in
financing any new business strain of the business on the books
The regulator could request the bank puts in additional capital into the life
insurance company to get the company above the threshold again
The regulator could insist on the bank selling the company to another provider
who would take on the liabilities
The regulator could force the sale of part of the inforce business to raise
capital.
The regulator may be able to override contract terms to remove discretionary
benefits or reduce financially onerous guarantees.
The regulator will take the more severe actions if the insurance company was
significantly below the threshold (or even below the solvency position on a
best estimate basis), for example take over running or wind-up company.
Part (i) was generally well answered with most candidates producing a few ideas on why
capital would be required. Part (ii) was reasonably well answered. Part (iii) was
disappointingly answered with few thinking wide enough to score the required marks. Part
(iv) was not very well answered with few candidates picking up the required depth or detail
to score well. Part (v) was reasonably well with most candidates suggesting a few ideas, but
the better candidates expanded on their answers and thought how the whole process would
work from monitoring to selling i.e. considered all the possible options the regulator has.

(i)

Initial concern will be the accurate identification of the current illness.


The main financial risks relate to potential length the illness.
And the level of medical care they require over that time.
There is a risk that the condition does get worse and the care costs
significantly increase because of this.
Risk that the illness initially identified is not the underlying condition, but a
symptom of something more serious which will increase costs.
For some conditions there might not be any chance of recovery; but there
might be enhanced treatments (that might be expensive) which prolong life
leading to higher pay outs
Potential moral hazard for individual not to recover if condition is mild; and
they are getting a good standard of living due to care provided.
Potential moral hazard of doctors using more expense treatments, or
continuing treatment for longer than in necessary.

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Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

There is claims control and claims underwriting risk


There will be investment risk in relation to assets backing reserves.
Geographic risk if some locations have better access to treatments for certain
illnesses. Pricing would need to consider treatment statistics relating to
location of individual (e.g. Heart attack treatment might be particularly poor in
one city compared to the rest of the country).
There is a fraud/moral hazard risk if the individual is required to inform the
insurance company when that they have got better.
Although risk is reduced if payments from policy are directly linked to bills
from medical and care providers.
There is a risk that medical and care cost inflation might be higher than
expected leading to increased costs.
There may be changes in legalisation or tax such that the profits are reduced
over the duration of the contract.
There may also be changes to factors that can be used in underwriting such
that risks might not easily be assessed.
If cover is added or removed from the policies there might not be sufficient
data to make a reliable estimate of the cost of claims.
There will be limited data for some illnesses which would make assessing
the likely recovery time and medical care difficult to assess.
If the company decides to reinsure the risk there could be an issue of recovery
if the reinsurer was to become insolvent.
The policy wording will need to be precise so that the only claims paid are
those that the company intended to provide cover for. Similarly the wording
on reinsurance contracts must be precise so that the company recovers what it
expects to.
There might be currency risks if the individual moves abroad and makes
claims for medical care in that territory.
Reputational risks. Definitions need to be clear so that there is no ambiguity.
Otherwise there could be a reputational risk if the insurance company refuses
to pay out on a claim
(ii)

Underwriting generally refers to the assessment of the potential risks so that


each can be charged an appropriate premium.

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Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

The proposal form will be used for the initial collection of information on the
risk.
Underwriting can be used to manage risk in the following ways:
It can protect a provider from anti-selection
It will enable a provider to identify risks for which special terms need to be
quoted
For really sick (or substandard risk) the underwriting process will identify the
most suitable approach and level for the special terms to be offered
Adequate risk classification within the underwriting process will help to
ensure that all risks are rated fairly
It will help in ensuring that claims experience does not depart too far from that
assumed in the pricing of the contracts being sold.
For larger proposals the financial underwriting procedures will help to reduce
the risk from over insurance.
Medical and other evidence
The company will want to obtain evidence about the health of the applicant
and in particular what illness they have.
This will be considered alongside the current treatment; and a view formed of
the likely needs in the short and long term for care.
The company is looking to assess the length of time the individual will be ill,
recovery rates and the likely costs of the care/medicine.
Will consider the general health of the individual (e.g. BMI, other
conditions) that might impact on recovery from illness.
Also will want to consider the areas record in terms of recovery rate; so will
ask for doctors that are treating them along with hospital information.
If applicable consider whether the individual has had the illness before; and
previous recovery times and/ or impact on future recovery times.
Specification of terms
Applicants who only have a minor condition and the needs for care are limited
might be offered a low premium on the basis that costs are likely to be low.
If the individuals conditions mean that costs are likely to be higher, payable
over a longer term or are variable might be offered a high premium on the
basis that costs are likely to be high.

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Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

If the member has had poor recovery times from previous illnesses the
premium could be adjusted to reflect this.
If the illness is unknown or the data available is severely limited then the
illness could be excluded from the contract, i.e. no insurance offered.
Certain types of care/medicine could be excluded if there was evidence that
there was no link to improving the illnesses.
The insurance company could restrict available medical and care
treatments to only those from an approved list, or from approved
providers to manage the costs.
(iii)

Diversification
The company will be looking for different geographical areas of the business
(i.e. not all exposed to territory).
The insurance company will also want to diversify by having a large
number of individuals insured with a number of different illnesses to limit
exposure to particular treatments and care needs.
If the company is planning to reinsure it might want to consider diversifying
by using more than one reinsurer.

Claims control systems


Claims control systems mitigate the consequences of a financial risk that as
occurred. They guard against fraudulent or excessive claims.
The costs of implementing and maintaining a control system must be
compared with the benefits gained form it.
The insurance company will want to ensure that it is regularly checking the
care costs/claims are valid to ensure that they are only paying for legitimate
costs incurred by individuals who still have the illness that was insured.
Management Control systems
Data Recording it is important that the company holds good quality data on
all the risks it insures, with particular emphasis on the risk factors identified
when the product was designed or when the risk was underwritten. This can
assist in ensuring that adequate provisions are established for those risks and
reduce the operational risks from having poor data. Also the data recording
could be used in the actuarial control cycle to better price the risks
Accounting and Auditing good accounting and audit procedures cannot
change the risks accepted but enable proper provisions to be established.
Monitoring of liabilities protect against the risk that the total risk (aggregate
over all policies) has brought the total exposure to an unacceptable level.

Page 15

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

Reinsurance the company could use reinsurance to manage the risk.


Partnering up with a supplier of treatment to fix costs and reduce claims
inflation risk
Part (i) was generally well answered with most candidates understanding the risks with the
better candidates discussing in more depth those risks. Part (ii) was reasonably well
answered with the better candidates tailoring to the product mentioned as opposed to
bookwork answers. Part (iii) was reasonably well answered with most candidates getting the
main management tools, the better candidates went into more detail.

(i)

Events leading to delay or cancellation of flights


Luggage lost/damaged in transit
Theft of personal property
Poor comfort, e.g. no available seating, failure of air conditioning, or lack of
refreshments
Purchase protection for any goods bought at the airport, including higher value
duty free items
Compensation for injuries caused at the airport, e.g. food poisoning from
catering facilities
Insurance for car parking facilities
Maintenance of onward journey, e.g. cover for rail or bus tickets
Medical insurance or life assurance covering sickness or death at the airport

(ii)

The main source would typically be historic data from the airport
However, six months data is unlikely to provide a reliable sample size
Particularly as this data will include the initial opening of the airport
This is the period when staff will be trained / will be less familiar with
procedures and hence more issues may have occurred
Data from other comparable airports could be used
But would need to consider an appropriate peer group in terms of
Volume of luggage handled and number of different flights handled
Location of airport and any structural differences

Page 16

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

For example available technology to assist handlers


And cultural differences, for example if that geography has a higher overall
crime rate which may influence baggage handlers
This would be a compromise between accessing more data, and the data
being of less direct relevance
The airport may not have access to this data, for airports run by competitors
But the insurance company might
Reinsurers may also provide another source of data
This may have the added advantage of the reinsurers expertise and may link
to the pricing offered for reinsurance
Regardless of the source of data it will be important to consider variability due
to
Abnormal or random fluctuations
Changes in experience over time
Heterogeneity in the underlying data, for example a different mix of business /
standard class of business

(iii)

There will be two key elements underlying the pricing of the risk
The expected number of claims
The expected value of the average claim
Will need to sort the data received into homogeneous groups
In order to assess the likely claim levels
Without distortions due to underlying heterogeneity
Expected number of claims will depend on total volume of luggage handled
And the expected rate of loss or damage
An initial assessment will be made on the likely risk of a claim per passenger
For example for a given group there may be a 1% chance of each passenger
making a claim
When pricing the risk there may need to be a margin for prudence

Page 17

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

In order to allow for fluctuations or other limitations in the data


Or for increased moral hazard, if less care is taken as products are insured
In assessing the likely cost of each claim, consideration would be made
looking at the data
Adjusting the average value for inflation if the data is not current, or the
contract will be for an extended period
Care will be needed when using claim data as the average value may be
distorted by policy excesses or maximum claim amounts, or selection if the
airport is in a materially more or less wealthy area
Which may result in material deviations if different limits apply to this policy
For volume of luggage handled a starting point may be the projected passenger
numbers provided by the airport
Or an independent analyst from the industry
Depending on how the policy is priced (a fixed premium, or a charge per
passenger) this assumption may be significant
If a fixed premium, then it may be appropriate to allow a margin onto the
projected figures
Or price based on a maximum passenger number with an additional premium
applying if that level is exceeded
An additional amount would be charged in order to cover the expenses of
administering the policy
Although no charge would be needed for marketing as it is effectively a fixed
policy
An allowance for profit should also be included
Although the level of profit included will depend on a number of factors
including the level of competition
And the extent to which this product may assist with building a broader
relationship with the airport
Different pricing would apply if the contract was to apply for a longer period,
reflecting potential economies on administration.

(iv)

Page 18

Being offered a service for free will likely encourage passengers to use the
airport

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

Although the actual impact would depend on whether the service can be
effectively advertised to make passengers aware of the service
And whether this conveys additional value
Benefit may have limited perceived value for individuals who have never lost
or damaged luggage. May be more valuable for those that have
In the context of the choice to use an airport the insurance may be a relatively
minor consideration
As if the airport does not offer the flight time / destination required a
passenger will not choose that airport
The airport may have a poor reputation
Travel costs may he higher due to cost of free cover recouped through
higher ticket prices.
The convenience of access, or parking facilities, may also be more significant
factors in the choice of airport
Some passengers will already have insurance for their luggage and hence this
benefit may be of no value
As each flight involves two airports, passengers may need insurance for the
other location anyway which limits the perceived value
And they may want insurance for the other risks which arent covered
It may be difficult for passengers to purchase insurance for these other
elements in isolation
The insurance on a crash may be viewed as sufficiently unlikely to be
perceived as a valuable benefit
Some passengers may query why this insurance needs to be offered, and if the
money could be better spent improving facilities
By offering insurance there may be an implication is that crashes or
loss/damage of luggage is likely; which would be a deterrent not an incentive
to use the airport

(v)

Low probability high risk events can only be diversified in a limited way
For example by insuring a large number of these risks
Where the probability of a claim is independent

Page 19

Subject CA1 Actuarial Risk Management, Paper 2 April 2015 Examiners Report

This would be achieved if there was a very large volume of flights from the
airport
Or if the insurance company was able to provide similar cover for a number of
other airports
Or if they provide other kinds of insurance in sufficiently large quantities to
diversify, for example other travel insurance products
Reinsurance may be another way of managing this risk
In particular catastrophe insurance would be appropriate
Although this would depend on the terms available, and whether the insurance
is able to protect against the level of risk required.
The insurance company could just accept that the risk exists
And that if it occurs the payout of 30,000,000 or more will ruin the company
Other controls could be used to help reduce the risk
For example requiring greater vigilance by air traffic control
Excluding flights to airports with high crash rates
Or insisting that additional checks are made prior to take off to ensure all
planes are fully flight worthy
Tight policy wording defining an insured event, e.g. must be a scheduled
service, and only for incidents with x miles of the airport.
Part (i) was well answered with the better candidates giving more risks than weaker
candidates. Part (ii) was well answered with one more source of data being mentioned by
most candidates, better candidates described these sources in more detail along with giving
comments on their suitability. Part (iii) was less well answered with little detail being given
on some elements of the answers, those candidates who understood the pricing details of a
general insurance product gave more structured answers and scored well when tailored to
the solution. Part (iv) was well answered with most giving reasonable answers, with the
better candidates giving more than a few reasons. Part (v) was less well answered, with most
candidates mentioning reinsurance with only the better candidates going into other ideas.

END OF EXAMINERS REPORT

Page 20

INSTITUTE AND FACULTY OF ACTUARIES

2
3
4
5
6

EXAMINATIONS

7
8

1 October 2015 (pm)

9
10

Subject CA1 Actuarial Risk Management

11
12

Paper Two

13
14
15

Time allowed: Three hours

16
17

INSTRUCTIONS TO THE CANDIDATE


1.

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.

24

4.

Mark allocations are shown in brackets.

25

5.

Attempt all seven questions, beginning your answer to each question on a new page.

26

6.

Candidates should show calculations where this is appropriate.

18
19
20
21
22
23

27
28
29
30
31
32

AT THE END OF THE EXAMINATION


Hand in BOTH your answer booklet, with any additional sheets firmly attached, and this
question paper.
In addition to this paper you should have available the 2002 edition of the Formulae
and Tables and your own electronic calculator from the approved list.

33
34
35

CA12 S2015

Institute and Faculty of Actuaries

An insurance company has been selling a critical illness insurance product for a
number of years.
In general, the premiums payable under this product are towards the higher end of the
range of premiums prevalent in the marketplace for this type of business. However,
over many years, the insurance company has developed a reputation for being flexible
and relatively generous when deciding on whether to pay claims.
The company now intends to introduce a new basic critical illness product.
The existing product will continue to be sold.
The premiums payable under the new basic product will be considerably lower than
those under the existing product. To compensate, under the new basic product,
tighter and more stringent medical criteria will need to be satisfied before a claim will
be paid. These criteria will be rigorously enforced.

(i)

Explain why policyholders who opt for the new basic product as opposed to
the existing product may end up feeling that they have been unfairly treated.
[4]

(ii)

Suggest with reasons two actions that the insurance company could take to
reduce the risks of policyholders feeling that they have been unfairly treated
under the new basic product.
[2]
[Total 6]

A new regulation is being introduced which will ban the payment of any commission
in connection with all insurance contracts. This will apply both to policies bought
directly from insurance companies and those bought via a third party (e.g.
independent advisors).
Instead, third parties will have to charge their customers (i.e. policyholders) explicitly.
This will be in the form of a fee for their services. That is, policyholders will pay a
premium for their policy plus a fee to any third party.
Discuss the possible implications of this new regulation for market premiums and
hence for insurance companies.
[10]

CA12 S20152

(i)

Describe the ideal criteria for risk events to be insurable.

[4]

An insurance regulator is concerned that a large number of term assurance claims are
being declined. Hence, a new regulation is being introduced that only permits term
assurance claims to be declined if the relevant insurance company can prove that the
claim is fraudulent. The regulation will apply to both new and existing policies.
(ii)

Discuss the potential implications of this new regulation on insurance


companies approaches to claims and claims management.

[6]

(iii)

Suggest other possible actions that insurance companies may have to take in
relation to new term assurance policies.
[3]
[Total 13]

(i)

Explain why a motor insurance company may want to investigate certain


claims.

[4]

Describe the main criterion that the insurance company would use to
determine whether or not to investigate a particular claim.

[3]

(ii)

A motor insurance company has reason to believe that an organised gang of criminals
are causing accidents in order to create a large number of fraudulent claims. For
example, attempting to claim under other drivers third party liability policies.
(iii)

Discuss the features of particular claims that the insurance company could
consider when trying to identify and investigate such fraudulent claims.
[8]
[Total 15]

CA12 S20153

PLEASE TURN OVER

Three domestic investment opportunities are being advertised with the following
prospective total returns, if held for the next two years:
Investment A
A fixed guaranteed return of 3% p.a. with an estimated probability of 99% or a
total loss with an estimated probability of 1%.
Investment B
Estimated returns of: 1% p.a. with an estimated probability of 10%
2% p.a. with an estimated probability of 20%
3% p.a. with an estimated probability of 30%
4% p.a. with an estimated probability of 25%
5% p.a. with an estimated probability of 15%
Investment C
A fixed guaranteed return of 50(fifty)% p.a. with 100% certainty.
Government two year bonds are currently providing an estimated prospective total
return of 2% p.a.

(i)

Calculate the expected cash amounts at the end of the two year period if $100
is invested in each of the three investments.
[4]

(ii)

Suggest, with reasons, assets that could back each of the investments.

(iii)

Outline the type of individual for which each investment could be suitable. [3]
[Total 15]

[8]

An organisation sponsors a defined benefit pension scheme for its employees.


Employees will receive a pension based on final salary and length of service on
retirement at age 65 or on earlier retirement on the grounds of ill health.
If they leave the organisation before retirement they will receive a deferred pension
(based on salary and length of service at date of leaving) payable on reaching age 65.
If they die whilst they are still employed by the organisation, a death benefit of four
times salary will be paid as a cash sum.
The organisation has asked an actuary to investigate the estimated value of these
benefits if the scheme is maintained in its current form.
(i)
(ii)

List the assumptions the actuary will need to make when carrying out the
investigation.
Discuss the suitability of the historical data likely to be available for
determining each of the assumptions in (i).

CA12 S20154

[4]
[10]

The investigation has concluded that the costs of providing the current benefits are too
high and that changes to benefits are needed.
The organisation wishes to retain the scheme and its broad, general features. But at
the same time they would like to consider options for reducing the cost.
(iii)

Suggest possible ways in which both of these objectives could be met.


[4]
[Total 18]

CA12 S20155

PLEASE TURN OVER

A government owned postal service has, until recently, enjoyed a monopoly on the
delivery of letters and parcels within a country. Accordingly, the terms they operate
under are regulated by the government. In particular:

The price they can charge is set by the government.

They must guarantee to deliver to every address in the country.

The price charged must be the same for every delivery irrespective of distance or
remoteness.

That is they cannot charge different prices for delivery to different addresses.
Competition is now allowed. Commercial companies have entered the market but
they are not subject to the price and delivery constraints that apply to the government
owned postal service.
That is, competitors can charge what they like for each delivery and they do not have
to deliver to every address.
(i)

Outline the main risks that all postal delivery companies would need to have
cover for under their employers liability and public liability insurance
policies.
[4]

(ii)

Describe how the different application of the price and delivery constraints
may affect the profitability of the government postal service in this
competitive environment.
[5]

(iii)

State one example for each of:


How increased use of the internet could:
(a)
(b)

be beneficial
be detrimental

to postal delivery companies.

[2]

The government postal service includes a large network of post offices that offer
various retail services as well as enabling customers to post letters and parcels.
The management accounting system used by the government postal service to process
and record transactions is very old and out of date. The directors have decided to
replace the whole system with a new highly sophisticated system. This new system is
currently being used by large life insurance companies.
(iv)
(v)

List the requirements that any project should meet in order to ensure
successful project management.

[4]

Discuss possible problems that could arise from the introduction of the new
accounting system.
[8]
[Total 23]

END OF PAPER
CA12 S20156

INSTITUTE AND FACULTY OF ACTUARIES

EXAMINERS REPORT
September 2015

Subject CA1 Actuarial Risk Management


Paper Two

Introduction
The Examiners Report is written by the Principal Examiner with the aim of helping candidates, both
those who are sitting the examination for the first time and using past papers as a revision aid and
also those who have previously failed the subject.
The Examiners are charged by Council with examining the published syllabus. The Examiners have
access to the Core Reading, which is designed to interpret the syllabus, and will generally base
questions around it but are not required to examine the content of Core Reading specifically or
exclusively.
For numerical questions the Examiners preferred approach to the solution is reproduced in this
report; other valid approaches are given appropriate credit. For essay-style questions, particularly the
open-ended questions in the later subjects, the report may contain more points than the Examiners
will expect from a solution that scores full marks.
The report is written based on the legislative and regulatory context pertaining to the date that the
examination was set. Candidates should take into account the possibility that circumstances may
have changed if using these reports for revision.
F Layton
Chairman of the Board of Examiners
December 2015

Institute and Faculty of Actuaries

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

A.

General comments on the aims of this subject and how it is marked


1. The aim of the Actuarial Risk Management subject is that upon successful completion,
the candidate should understand strategic concepts in the management of the business
activities of financial institutions and programmes, including the processes for
management of the various types of risk faced, and be able to analyse the issues and
formulate, justify and present plausible and appropriate solutions to business problems.
2. This subject examines applications in practical situation of the core actuarial techniques
and concepts. To perform well in this subject requires good general business awareness
and the ability to use common sense in the situations posed, as much as learning the
content of the core reading. The candidates who perform best learn, understand and
apply the principles rather than memorising the core reading.
3. The examiners set questions that look for candidates to apply the principles specific to
the situation set out in the questions, having read the question carefully. Many
candidates gain few marks by writing around the subject matter of the question in a more
general fashion. Detailed specialist knowledge is not required and nor is very detailed
development of particular points.
4. Good candidates demonstrate that they have used the planning time well to understand
the breadth of the question and to structure their answer this is a big advantage in
making points clearly and without repetition. This also enables candidates to use the
later parts of questions to generate ideas for answers to the earlier parts.
5. Time management is important so that candidates give answers to all questions that are
roughly proportionate to the number of marks available.
6. The comments that follow the questions concentrate on areas where candidates could
have improved their performance. Candidates approaching the subject for the first time
are advised to use these points to aid their revision.

B.

General comments on student performance in this diet of the


examination
1. As per previous sessions the candidates who were well prepared and structured their
answers scored well on the questions.
2. Those candidates that did not think widely enough on the application type questions did
not score sufficient marks to pass the exam.
3. Some of the questions were answered in a bookwork style this shows that the
candidate has reasonable knowledge of the course, but because this exam tests
application, candidates need to ensure that their answers are relevant to the question
being asked.

Page 2

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

4. There were some questions that did test bookwork and some candidates did not seem to
have the depth of knowledge to score well on these questions and therefore demonstrate
knowledge of the whole course.
5. It is also worth noting that this exam assumes knowledge of previous courses and can
ask for relevant mathematical calculations to be made. Therefore candidates should
assume that a calculator may be required.

C.

Comparative pass rates for the past 3 years for this diet of examination
Year
September 2015
April 2015
September 2014
April 2014
September 2013
April 2013

%
43
44
50
41
49
44

Reasons for any significant change in pass rates in current diet to those in the
past:
The pass rate for this examination diet is slightly lower than the April 2015 rate, but not
materially different. Variation in the pass rate between sessions is expected as different
cohorts of students sit the examination.

Solutions

Q1

(i)

More claims will be rejected under the new product than under the existing
one.
Hence, policyholders who were expecting their claims to be met, may feel
unfairly treated if those claims are rejected.
The new product may be marketed as a cheap simple (no frills) alternative.
That is, creating the impression of being similar to the existing product in its
main features. In practice there may be material differences e.g. in terms of
illnesses covered.
Policyholders may perhaps accept a lower level of benefits as a quid pro quo
but they may not fully appreciate that the lower premiums will need to mean
fewer claims being paid.
This will be especially true for existing policyholders who are used to the
current payment regime.

Page 3

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

It will also be relevant if, in the past, the insurance company has emphasised
its attitude to paying claims as a positive.
That is past practice and communication may have given policyholders
misapprehensions about the new product.
The new payment terms may not have been clearly stated or advertised. In
particular if an intermediary is involved.
Or they may have been set out in an overly complex or obscure way (lots of
small print) which, policyholders may not be able to understand.
If policyholders of the new product are aware of policyholders of the existing
product whose similar claims have been paid whilst theirs are rejected,
grievances will arise.
In any event, keeping the existing product, will mean two different payment
regimes which, may be hard to justify.
(ii)

They could market test the new product to assess whether the new terms are
clear enough.
Alternatively, they could put a lot of effort and resources into advertising and
communications to leave policyholders in no doubt maybe clear with the
Regulator.
They could have independent medical assessors (paid for by the insurance
company) who would judge whether particular claims should be paid.

Q2

Part (i)

This part of the question was well answered with most candidates
scoring well.

Part (ii)

Most candidates came up with one action for this part of the
question with better candidates coming up with two distinct actions.

Premium rates quoted by advisors will fall net of commission.


However, customers will have to add on the fee to determine the total they must pay.
This could be confusing and potentially misleading as it will create customer
uncertainty. In particular, it will make comparisons between direct and intermediary
sales harder.
This may lead to customers switching between sales media in an attempt to get a
cheaper option but not realising the full implications and so failing.
Premiums charged under direct sales will probably change but overall not by much.

Page 4

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

This is because the direct sales force will now be paid as other staff are. That is via
salary and bonuses and not via commission.
Hence the expense loadings will be different as allocations will change.
This could see changes between and within classes (by type of policy) but with the
overall premium levels being similar.
Commissions are usually charged as a percentage of premiums.
Fees will be related to actual costs incurred and work done.
Hence net premium plus fee maybe more or less than the previous premium.
In particular, there will be less difference between fees on smaller and larger policies
than between commission payments fixed cost issues making smaller policies
relatively more expensive.
Hence, there is likely to be a particular problem where premiums are low and where it
is no longer financially worthwhile advisors targeting sales at this segment of the
market as the fee would be too high to be afforded by customers.
Hence there could be less cross-subsidy from large to small policies.
One of the key issues is that if commission has driven advisors to sell particular
products, then those products will be sales driven, rather than driven by the
policyholder demand.
It is likely that commission driven products sales will reduce significantly in volume
as agents/advisors will now have to justify their fees/salary.
Regular monthly premium policies will present significant issues as policyholders will
not be used to paying a substantial fee relative to the regular premium at outset.
The alternative to one large initial fee is a smaller fee with each premium (or stepped
fees).
This will be unclear, confusing and cause practical difficulties in ensuring fees are
paid (lapses).
Average premiums per policy for advisor driven sales are likely to increase as
advisors target higher net worth customers that are financially worthwhile servicing
(can afford fees).
Overall premium income is likely to reduce unless an increase in higher premium
policies offsets a reduction of low premium policies.
This may mean that overall premiums have to rise due to fixed cost issues.

Page 5

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

If an insurance company targets lower net worth customers they are most likely to see
a significant new business reduction.
If they target high net worth customers then they are likely to experience greater
competition as insurance companies move to target business that is financially viable
for agents/advisors to sell.
Such competition could reduce overall profitability all chasing a smaller market.
This question was poorly answered. Few candidates understood the
difference between selling via 3rd party advisors and direct sales staff and how
this could be remunerated (e.g. commission versus salary) and therefore
gave answers that were incorrect. The question was worth 10 marks and
very few candidates made enough points to score well on this question.
Those that did had well planned out and structured answers.

Q3

(i)

Individual risk events should be independent of each other.


The probability of the event should be relatively small.
In other words, an event that is nearly certain to occur is not conducive to
insurance
On the face of it, death is certain, so a whole life assurance does not fit within
the above criterion.
However the considerable uncertainty over timing still gives rise to an
insurable event.
Large numbers of potentially similar risks should be pooled in order to reduce
the variance and hence achieve more certainty.
There should be an ultimate limit on the liability undertaken by the insurer.
Moral hazards should be eliminated as far as possible because these are
difficult to quantify.
There should be sufficient existing statistical data/information to enable the
insurer to estimate the extent of the risk and its likelihood of occurrence.

(ii)

The reason for the declined claims needs to be understood.


Claims could be declined due to:
Non-disclosure of information especially medical at the initial underwriting
stage.

Page 6

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Not meeting the claim event definition e.g. being covered by an exclusion
such as suicide (hazardous activities).
Fraud e.g. a death hasnt actually occurred. In some cases, deaths may be
reported to have taken place overseas with weak supporting evidence.
Other crime e.g. someone being killed for the insurance proceeds.
It will be important to clarify what is meant by fraud.
Presumably deliberately lying on an application is but making a genuine
mistake isnt?
Also, it will be necessary to check whether exclusions will be allowed and if
so, to what extent.
It may be necessary to adopt clear rules to determine which claims to
challenge.
Expenses may reduce where it is no longer worthwhile challenging whether
the claim is valid.
However, if challenges do go ahead, expenses may increase as more work will
be needed to justify rejection.
For deaths that are clear-cut (probably most claims) there will be little impact
on the number of claims being paid.
It will become harder to decline claims unless it is clear that the claim
definition has not been met (exclusions etc.) or fraud is easy to prove.
This is because the onus will have moved on to the insurance company to
prove that the applicant had deliberately non-disclosed to a standard that
demonstrates fraud.
Hence more claims being paid which will cause an increase in overall claims
costs.
Where there is reinsurance then the direct insurer is likely to have to pay more
claims where the reinsurer does not pay, further increasing the cost of claims.
(iii)

The main issue will be poor (i.e. undisclosed) information that will mean more
claims being paid than would have been assumed.
Hence:
Increase the quality of underwriting at outset. That is, get as much
information as possible.

Page 7

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Good sources that are less likely to be vague e.g. doctors reports will help.
Revise policy wording so the claims criteria are significantly clearer. That is,
in line with the spirit and interpretation of the new regulation e.g. on
exclusions.
Lots of warnings about consequences of non-disclosure may encourage better
information.
Negotiate reinsurance terms so that there is full alignment between the insurer
and reinsurer so that there are fewer cases where the reinsurer rejects claims.
Increase new business premiums due to more expected claims and general
uncertainty over the impact.
In extremis, the insurance company may decide to withdraw from the market.
It may be necessary to have more premium bands or reject more applications
to counter increased risks.
Part (i)

This part of the question was answered well, with most picking up
the bookwork marks on offer.

Part (ii) This was answered satisfactorily with most candidates scoring some
marks, better candidates went into more detail in their answers.
Part (iii) This was answered reasonably well, with most picking up the easy
actions that could be taken, better candidates thought more widely
on the possible actions specific to term assurance.

Q4

(i)

The main reason will be to ensure that the claim is valid.


Both in terms of the peril being covered (e.g. if 3rd party liability only is the
event insured) and the claim amount being commensurate with the loss/costs
incurred i.e. not inflated.
In particular, that the claim is in accordance with the policys terms and
conditions e.g. not subject to an exclusion.
The aim being to ensure that the amount paid (or 0) is correct (not too much)
e.g. to eliminate fraudulent claims.
Investigation of a representative sample of claims will help the insurance
company better understand the risk profile and so aid pricing and
underwriting.

Page 8

Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

It may help in setting terms and conditions e.g. for new developments
(technology) or types of claims risk profile changing.
It may help in providing advice to the insured on how to avoid (or reduce)
claims safety and security issues. Or indeed to manufacturers on design
issues.
(ii)

The main criterion would be the amount of the claim.


Either actual claim amount or in some cases (e.g. liability) the estimated
potential claim amount.
Large claims e.g. over a threshold would be investigated.
The rationale being that the potential savings on investigating small claims
wouldnt compensate for the expense, time or hassle involved.
The amount could be a fixed cash value or may be relative to average claim
amounts.
Allowance would be needed for inflation of claims cost i.e. the threshold may
change over time.
The threshold may vary by type of claim or other rating factor e.g. location or
if certain suspicious signs were present see (iii).

(iii)

Claims will arise from incidents that are the fault of the criminals but are made
to look like the fault of the insured drivers.
Hence, the insurance company will focus on scenarios where this possible
e.g. incidents involving more than one vehicle or pedestrians.
In particular, claims for injuries that are hard to verify or assess e.g. whiplash
and that are not too serious.
It is possible that claims for damages to vehicles could be involved e.g. if
garages are providing inflated quotes for repairs etc.
The insurance company will want look for similarities amongst claims
involving common factors.
In particular, the features of the incidents will probably be broadly alike
e.g. crashes at roundabouts, traffic lights, parking, rear shunts etc.
Locations will tend to be the same both in terms of general areas (e.g. South
Manchester) and specific sites e.g. at a few notorious accident black-spots.
Time of day could be a relevant feature e.g. in rush-hours.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

The same vehicles could be involved (if not damage claims), with possibly the
same claimants or, more likely, registered owners or maybe addresses of
claimants/owners.
The information provided on the claim form will be a useful source.
Again it is likely that common descriptions or words and phrases will be used.
This will be particularly relevant if claims are coming via a claims
management agency and they are preparing the documentation.
Check if the same doctors are verifying injuries and their extent solicitors
may also be involved for the same purpose i.e. quantifying claims.
The behaviour of claimants (as described on claim forms) could be similar
e.g. in how they approach the insured and things that they say or do
exaggerated actions trying to emphasise injuries. Look for unusual behaviour
repeated in many claims.
Likewise, the same witnesses may be being used making the same comments.
It is likely that drivers who are very likely to be insured (or will not cause a
fuss) will be targeted e.g. company car drivers, the elderly or respectable
looking.
It likely that individual claims will not be very high i.e. trying to keep below
the radar, threshold for investigation.
It is possible that stolen cars may be used.
Hence co-operation with police databases may help.
Likewise, co-operation with other insurance companies may help if they are
experiencing similar problems.
Part (i)

This part of the question was reasonably well answered, with most
picking up relevant points. However a number of candidates did not
state the obvious (e.g. check that the claim was valid) and therefore
missed easier marks. Better candidates thought more widely and
covered setting terms and conditions.

Part (ii) This was answered reasonably well, with most candidates
identifying amount as key and then elaborated well to score
sufficiently.
Part (iii) Again this was answered reasonably well, but given the question
was worth 8 marks, many candidates did not make enough points to
score all the marks available to this part.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Q5

(i)

(ii)

= 100{(1.03)(1.03) 0.99 + 0 0.01}


= 105.03

(a)

Amount

(b)

Amount = 100{(1.01)(1.01) 0.10 + (1.02)(1.02) 0.20


+ (1.03)(1.03) 0.30 + (1.04)(1.04) 0.25
+ (1.05)(1.05) 0.15}
= 106.41

(c)

Amount = 100(1.50) (1.50)


= 225.00

Amount if invested in government bonds = (1.02)(1.02) = 104.04


(a)

The guaranteed return implies a fixed 2 year term (if not, unknown
price).
It also implies no income (or guaranteed reinvestment rates).
Due to unknown reinvestment rates (probably).
The relatively low return above government implies relative security.
The default risk implies a corporate issuer.
Likely assets are commercial loans or paper from a highly rated entity.

(b)

A positive return doesnt necessarily mean price rises. A relatively


high income yield could go together with price falls.
Given likely yields, there is a chance of noticeable price falls.
Estimated returns (and probabilities) imply uncertainty.
A range of outcomes implies volatility of price (yield more stable).
But the range is relatively narrow.
This implies a degree of diversity within the investment.
Or could argue for relatively stable risky assets e.g. defensive
equities.
Likewise no total default risk implies the same.
Given the relatively high return v a. and government, assets are
expected to be relatively risky.
The most likely assets are a portfolio of equities.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Though a case could be made for portfolios of long (not short) bonds
or property.
(c)

In general, if things look too good to be true then something is wrong.


The certain guaranteed return is totally unrealistic relative to other
available returns.
Hence it could be an illegal venture e.g. a pyramid scheme.
More likely, assets dont exist i.e. have been embezzled, a con.

(iii)

(a)

Someone relatively risk averse who is looking for preservation of


capital (e.g. uncertain short term outgo).
For example someone saving for a short term liability or project
(e.g. big holiday) or a retirement lump sum (NOT pension).

(b)

Someone less risk averse or with no specific liabilities (or who has free
capital).
Perhaps a younger person saving for retirement or looking for
relatively high real (but not very high risk) returns.

(c)
Part (i)

The gullible or stupid or greedy (or all 3).


This question was reasonably well answered. However a number of
candidates struggled with this question, and some candidates gave
the correct formula but did not calculate the final result maybe due
to not having a calculator.

Part (ii) This question was answered reasonably well, but some candidates
failed to comment on the likelihood of the returns from investment C.
Part (iii) This had mixed responses, those candidates that analysed the
investment opportunities and considered the characteristics of each
investment scored well.

Q6

(i)

Future investment returns.


Future salary levels
Future inflation rate in order to determine the assumption to be used for
benefit increases

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Mortality (either for members or other beneficiaries):


Before retirement
After retirement
For example:
Of those taking ill health retirement; or
Of early leavers
Improvements (future changes) in mortality
Probability of leaving or entering employment
Probability of retirement due to ill health
Marital/family status or proportions with dependants (e.g. partners or
children).
(ii)

In determining an assumption for future investment returns, historical data on


dividend yields on equities and on the total returns on other asset classes held
will be useful.
Historical data can fluctuate significantly and it may be thought that only data
relating to a period after a significant change can be used (i.e. relatively
recent).
Earlier data will be needed to try to strip out the fluctuations that relate to
economic and fiscal conditions. So need a reasonable volume (history).
This will also be relevant since a long term view of future returns is needed.
Historical data on salary levels in the country, industry and organisation will
be useful when making an assumption about future levels of salary growth.
It is important to ensure that this data is relevant to the individuals in the
scheme.
It may be necessary to make an adjustment to the historical data to allow for
differences in the characteristics of the individuals concerned (e.g. changes in
the workforce/organisation).
The scheme sponsor may be able to provide information on planned future
salary increases or if method of is changing e.g. higher proportion via bonuses
Historical levels of an index to measure inflation are likely to fluctuate
significantly.
They are unlikely to be very useful in determining an assumption for future
levels of inflation. For example long periods of relatively high or low
inflation.
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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Current index levels are likely to be a better guide to future levels of inflation.
Government projections and the risk free real returns indicated by the
current yields on long-term index-linked bonds could be used e.g. yield gap v
conventional bonds.
It will be important to use an index that relates to how benefits (in deferment
and payment) actually increase e.g. RPI or CPI.
There may be data available on historic levels of mortality in the country,
e.g. general population mortality.
There will also be insurance company and general pension scheme data which,
may be more useful (selection by employees joining the scheme).
There may have been recent investigations of scheme mortality.
Separate rates will be needed for rates in service, after normal retirement, after
ill health retirement and for early leavers.
There may be less scheme or organisation data for ill-health or deferred
mortality.
The data will need to be relevant to the individuals in the scheme and
adjustments may be needed to allow for this (e.g. if not from scheme sources).
This may be particularly relevant if the organisation is non-standard and hence
has unique mortality features.
The historical data can be used to project future improvements in mortality.
Mortality data is mainly affected by medical advances and historical data
should be considered with this in mind.
This is likely to result in significant emphasis being placed the most recent
data with consideration of past trends and their underlying reasons being
important in determining the extent of future change.
Historical scheme data e.g. experience investigations can also be used when
determining the probability of individuals leaving employment or becoming
ill. But it may be volatile or out of date. Non scheme data is probably of less
use here.
The organisation may be able to provide information on likely future rates of
withdrawal e.g. if they have significant changes in mind (could be
confidential).

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

They may also have information on how ill health retirement rates relating to
the scheme may change e.g. changes in work practices and the business or
how the definition in the rules is applied.
Historical country, industry and scheme data on proportions married or with
dependants may not be of much use.
Cost will depend on the circumstances when benefits become payable.
For example married at death, leaving or retirement.
Common law marriages or same sex relationships may give rise to benefits in
the future.
(iii)

Increasing retirement age.


Reducing accrual rate.
Bringing in (or increasing) minimum level of service e.g. a waiting period
before eligibility for benefits begins.
Increasing employees contributions.
Reducing pensionable salaries or pensionable salary increases e.g. only basic
pay or RPI increases.
Changing from final salary to career average salary.
Reducing death benefit.
Maximum annual pension per individual (e.g. via a service or salary cap).
Reducing increases to pensions in payment and/or deferment if allowed.
Reducing the level of dependants benefits or limiting circumstances where
payable (e.g. only on ill health).
Reducing ill health benefits e.g. pay only a deferred pension (maybe from
say 55).
Tighten eligibility for ill health pension (e.g. only work related issues, no preexisting conditions).
Reducing early leaver benefits e.g. enhanced transfer terms.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Cutting down on the potential value of options or guarantees e.g. commutation


rates
Part (i)

This question was answered well with most candidate covering all
the relevant assumptions.

Part (ii) This question was generally poorly answered. Those that structured
their answers did well, focusing on more than one or two
assumptions covered in part (i).
Part (iii) Some good answers here with the best answers considering a
number of actions rather than just focusing on one or two possible
actions.

Q7

(i)

Employer
Injury or accident to employees at work e.g. sorting machinery or related.
Issues to do with delivery routes e.g. claims relating to heavy loads, faulty
equipment e.g. vehicles.
Claims relating to workloads e.g. too excessive or stressful (time deadlines).
Claims relating to dangerous practices (negligence) e.g. being sent into
dangerous areas, lack of protective clothing (against weather or visibility).
Public
Lost, stolen or damaged letters or parcels could be very valuable.
Injury or accident to members of the public e.g. from vehicles.
Damage to property caused in delivery e.g. trampling gardens etc.
Injury to the public whilst on company property e.g. whilst collecting things.

(ii)

In general profits will be adversely affected.


Prices may be set with regard to political rather than profit criteria.
For example kept low to boost popularity of government.
Alternatively prices may be set high as a form of tax.
In this case profits would still suffer as the government would take the excess
for itself.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

In any event, the government wont have the expertise to set correct prices.
As above, this implies low profits or clawback of excesses.
The government postal service may give input as they will have expertise
but this could be ignored.
Competitors can and will cherry pick. That is they can choose not to deliver to
certain addresses
They will deliver on low cost routes and ignore high cost ones (e.g. urban v
rural).
They can undercut the government service on price on low cost routes.
Hence the government service will be left with high cost routes and the same
price for all routes means losses on those routes.
Competitors will have lower admin costs as they will be selective needing
lower overheads.
Compliance with regulation implies more costs for the government service.
Essentially, competition takes the profitable services.
(iii)

(a)

Beneficial
More on-line shopping implies more need for delivery of purchased
goods.

(b)

Detrimental
More e-mail communication implies fewer letters.

(iv)

A clear definition of the aim of the project.


Full planning.
Thorough risk analysis.
Monitoring of development.
Measurement of performance and quality standards.
Thorough testing at all stages.
Care in managing different strands of the project (critical path analysis).
Move along at the appropriate pace.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

Stable but challenging relationships with suppliers.


A supportive environment.
Excellent communications between those involved.
Positive conflict management.
A schedule of what needs to be considered at each milestone review point.
Strong experienced leaders.
(v)

Installation of the system could cost too much (over budget).


Staff (especially skilled) costs or equipment costs higher than expected.
The system may take too long to install. For example due to planning or
infrastructure issues or unforeseen complications.
This will increase costs.
It will also lead to inefficiencies and work disruption.
In particular there will be transitional problems.
Periods will exist when 2 (or 0) systems will be in place together making
work difficult.
Data could be lost or corrupted during transition.
The main issue could be that the system doesnt work properly (e.g. poorly
installed).
Causing major disruption to the business.
It may be difficult to integrate within and/or between the retail and delivery
sides of the business or other users.
It is possible that attempting a cheap install will lead to faults later on.
Staff may be poorly trained, lack expertise or support and so are unable to use
the system.
Particularly relevant if highly sophisticated means complex.
This could affect staff morale and so further worsen performance.
The new system is used by different types of organisations.
Hence it may be incompatible with the postal services needs.

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Subject CA1 (Actuarial Risk Management), Paper 2 September 2015 Examiners Report

In particular the postal service is primarily retail based. There will be some
complications where the service acts as an agent e.g. benefit or bill payments.
But generally accounting will be about reconciling revenue to sales.
Life insurers are involved in managing customer policies and accounts in
particular linking benefits to premiums. Record keeping and updating will be
more complex than for a retailer.
The need to calculate reserves and value assets will add further complications.
Hence the new system is likely to contain a lot of expensive features and
functions not required by a retailer.
Any problems could cause political problems for the government.
Part (i)

This question was generally answered well but some candidates


had little knowledge of the two products mentioned.

Part (ii)

This question was also generally well answered, with most


candidates scoring reasonably well. The better candidates were
able to expand on the points being made.

Part (iii)

This was answered OK, but some candidates needed to focus on


the postal delivery company rather than giving general answers.

Part (iv)

Generally well answered, with most candidates picking up the


requirements of project management.

Part (v)

This part was not answered very well. Candidates generally picked
one or two ideas and went into significant depth on these, which
scored well but did not give the range of answers required to score
the marks available for this part.

END OF EXAMINERS REPORT

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