2022-09-19 LIM Chapter 4 - Print - Me

Life Insurance Mathematics
Insurance benefits
Katrien Antonio
Faculty of Economics and Business

University of Amsterdam
k.antonio@uva.nl
September 19, 2022

Motivation
policyholder’s beneficiaries
death benefit
life insurance
contract
insurance company policyholder
premium(s)
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Motivation 2 / 73

Motivation
I Life insurance products are relevant in (e.g.):
• decreasing term insurance in combination with a home mortgage
• (recently) combinations of death benefit coverage with investing, as in universal life or

unit-linked policies.
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Motivation 3 / 73

Learning outcomes
I We value traditional life insurance benefits, including the whole life, term and endowment
insurance.
I We introduce the random variables (r.v.’s) representing the present values of the benefits,
and express their moments.
I We develop valuation functions for benefits on
• Tx
• Kx
(m)
• Kx , the number of complete periods of length 1/m years lived by (x).
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Learning outcomes 4 / 73
Learning outcomes
I We cover Sections 4.1 - 4.4 and 4.6 from the book (DHW, third edition).
I We mention the essential findings from Section 4.5 (‘Relating Āx , Ax and A(m)
x ’) but will
not cover the derivations in this Section.
I We dot not cover Section 4.7.
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Learning outcomes 5 / 73
Introduction
I We combine:
• survival models (cfr. Chapter 2 and 3 in DHW)
• time value of money functions (cfr. Chapter 1 in our DataCamp)
and obtain the distribution of the present value (PV) of an uncertain, life contingent future
benefit.
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Introduction 6 / 73

Assumptions
I The basis is the set of assumptions used in life insurance or pension calculations.
I The DHW book often uses:
• Makeham’s law for mortality (the ‘standard ultimate survival model’)
µx = A + B · cx ,
with given A, B and C (cfr. the expressions in the DHW book),
• a constant and fixed interest rate (see DataCamp Chapter 1 for other term structures)
1+i = eδ
v = (1 + i)−1 = e −δ .
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Assumptions 7 / 73

Assumptions
I What if we split the one year time period in m equal intervals (e.g., m = 12)?
I Then the following equality holds:

? m
(1 + i) = (1 + im )
? the effective rate applicable to a 1/mth period of a year.
with im
I (Cfr. DataCamp Chapter 1, video on ‘Change of period and term structure’).

Assumptions
I Thus,
?
im = (1 + i)1/m − 1
i (m)
= (1 + i)1/m − 1,
m
with
• i (m) the nominal interest rate compounded m times per year
• im? the mthly effective rate
• i (m) = m · im? .

Whole life insurance
Continuous case, Āx
I Value the following life insurance product:
• benefit of 1 EUR
• payable immediately (!) on death of the policyholder, aged x.
I Continuous setting, with a unit benefit.
I Payment date is unknown, and thus present value of benefit is also unknown.
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Valuation of insurance benefits 10 / 73
Continuous case, Āx , time-line
Pay 1 EUR at time s
discount with v (0, s) = e −δ·s
x x +s x + s + ds age
0 s s + ds time
s px µx+s ds
(x) survives s years (x) dies
If Tx = s, then present value r.v. takes value e −δ·s .
Continuous case, Āx , PV as r.v.
I The present value of the 1 EUR benefit payable immediately on death is a r.v.,
Z = v Tx = e −δ·Tx .
I Interest goes to the Expected Present Value or EPV,
E [Z ] = E [e −δ·Tx ],
with International Actuarial Notation Āx = E [e −δ·Tx ].
I Other term for EPV is Actuarial Value or Actuarial Present Value.
The EPV of the 1 EUR benefit continuous whole-life insurance product.

Recall the pdf of Tx ,
fx (t) = t px · µx+t ,
then
Āx = E [e −δ·Tx ]
Z ∞
= e −δ·t · t px · µx+t dt.
0
Cfr. the time-line: let s run from 0 to ∞ (or: ω − x).
I The second moment of the PV of the death benefit,
E [Z 2 ] = E [(e −δ·Tx )2 ] = E [e −2·δ·Tx ]

Z ∞
= e −2·δ·t · t px · µx+t dt
0
2
= Āx ,
where the superscript indicates that interest force 2 · δ is used.
I Variance of the PV
Var[Z ] = Var[e −δ·Tx ] = 2

Āx − (Āx )2 .
I Calculate any probabilities associated with Z ,
Pr[Z ≤ 0.5] = Pr[e −δ·Tx ≤ 0.5]

= Pr[δ · Tx > − log (0.5)]
= Pr[Tx > log (2)/δ] = u px ,
with u = log (2)/δ.
Annual case, Ax
I Value the following life insurance product:
• benefit of 1 EUR
• payable end of the year of death of the policyholder, aged x.
I Discrete time setting, yearly time periods, with a unit benefit.
I Payment date is unknown, and thus present value of benefit is also unknown.
Annual case, Ax , time-line
Pay 1 EUR at time k + 1

discount with v (0, k + 1)
x x +k −1 x +k x + k + 1 age
0 k −1 k k +1 time
k px qx+k
(x) survives k years (x) dies
If Kx = k then the present value r.v. takes value e −δ·(k+1) .

Annual case, Ax , PV as r.v.
I The present value of the 1 EUR benefit payable at the end of the year of death is a r.v.,
Z = v Kx +1 .
E [Z ] = E [v Kx +1 ],
with International Actuarial Notation Ax = E [v Kx +1 ].
I Other term for EPV is Actuarial Value or Actuarial Present Value.
The EPV of the 1 EUR benefit discrete whole-life insurance product.

Recall the pf of Kx ,
Pr (Kx = k) = k px − k+1 px = k px · (1 − px+k ) = k px · qx+k =k| qx ,
then
Ax = E [v Kx +1 ]
+∞
X
= v k+1 k| qx = v · qx + v 2 · 1| qx + v3 · 2| qx + ...
k=0
Cfr. the time-line: let k run from 0 to ∞ (or: ω − x).

2
Ax = E [Z 2 ] = E [(v Kx +1 )2 ]
+∞
X
= v 2(k+1) k| qx
k=0
= v · qx + (v 2 )2 ·
2
1| qx + (v 2 )3 · 2| qx + ...
Then, the variance of the present value of a benefit of 1 EUR payable at the end of the
year of death is
2
Ax − (Ax )2 .
(m)
The 1/mthly case, Ax
I Let Kx(m) be the 1/mthly curtate future lifetime r.v., where m > 1 is an integer (e.g. 2, 4
or 12).
I This is the future lifetime of (x) in years, rounded to the lower 1

m th of a year.
I For example, when (x) lives exactly 23.675 years
Kx = 23,
(2) (4) (12) 8
Kx = 23.5, Kx = 23.5, Kx = 23 .
12
(m)
The 1/mthly case, Ax
I Thus, Kx(m) = k indicates that (x) dies in [k, k + 1/m).
I Now k runs over 0, m1 , m2 , . . ..
I With probability function

(m) 1
Pr [Kx = k] = Pr k ≤ Tx < k +
m
= k| 1 qx = k px − k+ 1 px .
m m
(m)
The 1/mthly case, Ax , time-line
1
Pay 1 EUR at time k + m
1
discount with v (0, k + m
)
1
x x +k x +k + m age
0 k k+ 1 time
m
k px 1 qx+k
m
(x) survives k years (x) dies
(m) 1
1 2
If Kx = k (with k = 0, m , m , . . .) then the present value r.v. takes value v k+ m .
(m)
The 1/mthly case, Ax , PV as r.v.
I The present value of the 1 EUR benefit payable at the end of the month of death is a r.v.,
(12)
Z = v Kx +1/12
,
where m = 12.

(12)
E [Z ] = Ax ,
the International Actuarial Notation for the EPV of this product.
(m)
The EPV of the 1 EUR benefit discrete, 1/mthly whole-life insurance product.
(m)
Recall the pf of Kx ,
(m)
Pr (Kx = k) = k px − 1 px
k+ m = k px · 1 qx+k = 1 qx ,
k| m
m
then
(m)
Ax = v 1/m 1 qx + v 2/m 1 1
| qx + v 3/m 2 1
| qx + . . .
m m m m m
1
Cfr. the time-line: let k run from 0 to ∞ (or: ω − x) in steps of m.
(m)

(12)
2 (12)
Ax = E [Z 2 ] = E [(v Kx +1/12 2
) ]
(12)
= E [(v 2 ) Kx +1/12
].
I Then, the variance of the present value of a benefit of 1 EUR payable at the end of the
month of death is
2 (12) (12) 2
Ax − (Ax ) .
Recursions
I Using the annual life table in a spreadsheet, calculate Ax using backwards recursion.
I Start from ω and assume qω−1 = 1, then Kω−1 = 0, thus
Aω−1 = E [v Kω−1 +1 ] = v .
Recursions
I Manipulating the summation formula for Ax ,

ω−x−1
X
Ax = v k+1 k px · qx+k
k=0
= v · qx + v 2 · px · qx+1 + v 3 · 2 px · qx+2 + . . .
= v · qx
+v · px · v · qx+1 + v 2 · px+1 · qx+2 + v 3 · 2 px+1 · qx+3 + . . .

= v · qx + v · px · Ax+1 .
Recursions
I Intuition behind Ax = v · qx + v · px · Ax+1 ?
I Separate the EPV Ax into:
• value of the benefit in the first year, between time 0 and 1,
v · qx ,
• value at age x + 1 of all subsequent benefits, discounted to time 0 using survival probability
and the discount factor!
v · px · Ax+1 .
Here: Ex := v · px and n Ex := v n · n px , the actuarial discount factor.
Term insurance
Continuous
I Death benefit is payable at the moment of death, but only if policyholder dies within fixed
term of, say, n years.
I The present value r.v. Z , with benefit of 1 EUR, is

(
v Tx = e −δ·Tx if Tx ≤ n,
Z =
0 if Tx > n.
I Actuarial notation for the EPV is Ā 1 .

x:n
Term insurance
Continuous
I Using a similar reasoning as before (with the continuous whole-life insurance), the EPV is
Z n
Ā 1 = e −δ·t t px · µx+t dt.
x:n 0
I The expected value of the squared present value r.v., Z 2 ,

Z n
2
Ā 1 = e −2·δ·t t px · µx+t dt.
x:n 0
Term insurance
Annual
I Death benefit is payable at the end of the year of death, if death occurs within fixed term
of, say, n years.

(
v Kx +1 if Kx ≤ n − 1,
Z =
0 if Kx ≥ n.
I Actuarial notation for the EPV is

n−1
X
A1 = v k+1 · k px · qx+k .
x:n
k=0
Term insurance
mthly case
I Death benefit is payable at the end of the 1/mth year of death, if death occurs within fixed
term of, say, n years.

(m)
( 1 (m)
v Kx + m if Kx ≤ n − m1 ,
Z = (m)
0 if Kx ≥ n.
I Actuarial notation for the EPV is

m·n−1
(m)
X (k+1)
A1 = v m · k px · 1 qx+ k .
x:n m m m
k=0
k 1
[Check: if k = m · n − 1, then m =n− m .]
Pure endowment
I Pure endowment benefits are conditional on the survival of the policyholder at a policy
maturity date.
I Often used in combination with term insurance benefits.
I The present value r.v. Z , with benefit of 1 EUR and term of n years, is
(
0 if Tx < n,
Z =
v n if Tx ≥ n.
I We denote the EPV as A 1 or as n Ex .

x: n
Pure endowment
I Rewriting Z we find,
(
0 with probability 1 − n px ,
Z =
vn with probability n px .
Then, the EPV of the pure endowment is
A 1 = n Ex = vn · n px .
x: n
I No need to distinguish continuous and discrete time versions!

Why not?
Endowment insurance
Continuous
I The endowment insurance combines: (i) a term insurance and (ii) a pure endowment.
I The present value r.v. Z , with benefit of 1 EUR and term of n years, is
(
v Tx = e −δ·Tx if Tx < n,
Z =
vn if Tx ≥ n.
= v min(Tx ,n) = e −δ·min (Tx ,n) .
I We denote the EPV as Āx:n .
Endowment insurance
Continuous
I Calculating the EPV:

Z n Z ∞
−δ·t
E [Z ] = e t px · µx+t dt + e −δ·n t px · µx+t dt
0 n
Z n
= e −δ·t t px · µx+t dt + e −δ·n · n px
0
= Ā 1 + Ā 1 .
x:n x: n
I Similarly, for the expected value of the squared PV benefit

Z n
2
Āx:n = e −2·δ·t t px · µx+t dt + e −2·δ·n · n px .
0
Endowment insurance
Annual
I When the death benefit is payable at the end of the year of death,
(
v Kx +1 if Kx ≤ n − 1,
Z =
vn if Kx ≥ n
= v min(Kx +1,n) = e −δ·min (Kx +1,n) .
I With EPV
n−1
X
v k+1 · k px · qx+k + v n · Pr [Kx ≥ n] = A 1 + v n ·n px .
x:n
k=0
Endowment insurance
mthly
I When the death benefit is payable at the end of the 1/mth year of death,
(m)
( 1 (m)
v Kx + m if Kx ≤ n − m1 ,
Z = (m)
vn if Kx ≥ n.
(m) 1
= v min(Kx +m ,n)
.
I With EPV
m·n−1
(m) (m)
X
v (k+1)/m · k px · qx+ k + v n · Pr [Kx ≥ n] = A 1 + v n ·n px .
m m x:n
k=0
Deferred insurance benefits
Continuous
I Deferred insurance refers to insurance which does not begin to offer death benefit cover
until the end of a deferred period.
I Consider a benefit of 1 EUR payable immediately on death of (x) provided (x) dies
between ages x + u and x + u + n.
I The PV r.v. is
(
0 if Tx < u or Tx ≥ u + n,
Z =
e −δ·Tx if u ≤ Tx < u + n.
I International actuarial notation for the EPV is u| Ā 1 .

x:n
Continuous
I Calculate the EPV
Z u+n
u| Ā 1 = e −δ·t t px · µx+t dt
x:n u
Z n
= e −δ·(s+u) s+u px · µx+s+u ds
0
Z n
−δ·u
= e p
u x e −δ·s s px+u · µx+s+u ds
0
= e −δ·u u px · Ā 1
x+u:n
= vu · u px · Ā 1
x+u:n
= u Ex · Ā 1 .
x+u:n
Note that u Ex = v u ·u px acts as a discounting factor here.

I Rewriting the EPV, note that

Z u+n
e −δ·t t px · µx+t dt
u
Z u+n Z u
−δ·t
= e t px · µx+t dt − e −δ·t t px · µx+t dt.
0 0
Hence,
u| Ā 1 = Ā 1 − Ā 1 .
x:n x:u+n x:u
(As a recap) Let’s take a closer look at the following identity:
u| Ā 1 = Ā 1 − Ā 1 ,
x:n x:u+n x:u
or, put otherwise
Ā 1 = Ā 1 + u| Ā 1 ,
x:u+n x:u x:n
i.e. the EPV of term insurance with duration u + n issued to (x) equals the EPV of a term
insurance with duration u years issued to (x) plus the EPV of a term insurance with duration n,
deferred over u years, issued to (x). This is also equal to
Ā 1 = Ā 1 + u Ex · Ā 1 ,
x:u+n x:u x+u:n
with u Ex = v u · u px = e −δu · u px , the actuarial discount factor.

Indeed, taking a look at the integral expressions

Z u+n Z u Z u+n
−δt −δt
Ā 1 = e · t px · µx+t dt = e · t px · µx+t dt + e −δt · t px · µx+t dt
x:u+n 0 0 u
Z n
= Ā 1 + e −δ·(u+s) · u+s px · µx+u+s ds
x:u
Z0 n
= Ā 1 + e −δ·(u+s) · u px · s px+u · µx+u+s ds
x:u 0
Z n
−δ·u
= Ā 1 + e u px e −δ·s s px+u · µx+u+s ds
x:u 0
−δ·u
= Ā 1 +e u px · Ā 1 .
x:u x+u:n
(m)
Relating Āx , Ax and Ax : the essentials
I The goal is to approximate

(m)
Āx or Ax
using the EPV of the annual product, Ax .
I This is useful when we only have a life table with integer age functions.
(m)
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Relating Āx , Ax and Ax 45 / 73
(m)
Relating Āx , Ax and Ax
Using UDD - the essentials
Under UDD assumption:

i
Āx ≈ · Ax
δ
(m) i
Ax ≈ (m)
· Ax
i
with similar approximations for other products (e.g., a term insurance).
You will sometimes use this approximation in exercises (cfr., formula sheet). Derivation
on next slides is FYI.
(m)
(m)
Using UDD - FYI
I Under UDD we have, for 0 ≤ s < 1,
d d
s qx = s · qx
ds ds
= qx .
The lhs is the derivative of the cdf of Tx , hence the pdf, thus
qx = s px · µx+s = fTx (s),
under UDD and with 0 ≤ s < 1.
(m)
(m)
Using UDD - FYI
I Under UDD and for 0 ≤ s < 1, we have

Z ∞
Āx = e −δ·t · t px · µx+t dt
0
Z 1 Z 2
−δ·t
= e · t px · µx+t dt + e −δ·t · t px · µx+t dt + . . .
0 1
∞ Z k+1
X
= e −δ·t · t px · µx+t dt
k=0 k
∞ Z 1
(write t=k+s) X
k+1
= k px ·v e (1−s)·δ s px+k · µx+k+s ds,
k=0 0
where we used e −δ·(k+s) = e −δ·(k+1) · e δ · e −δ·s = v k+1 · e (1−s)·δ .
(m)
(m)
Using UDD - FYI
I Under UDD qx+k = s px+k · µx+k+s with 0 ≤ s < 1, therefore we have

∞
X Z 1
k+1
Āx = k px · qx+k · v e (1−s)·δ ds.
k=0 0
Eventually,
eδ − 1
Āx ≈ Ax ·
δ
1+i=e δ i
= · Ax .
δ
Similar approximations hold for other products.
(m)
(m)
Using claims acceleration
I The claims acceleration approach is a more heuristic way of deriving an approximation.
I Only involves the timing of payments!
I For example,
• insured (x) dies in [x + Kx , x + Kx + 1), now split the year into quarters
• then payment either at Kx + 1/4, Kx + 1/2, Kx + 3/4 or Kx + 1

1/4+2/4+3/4+4/4
• on average, Kx + 4 = Kx + 58 .
(m)
(m)
I In general, payment takes place on average at
1/m + 2/m + . . . + m/m (m · (m + 1))/m

Kx + = Kx +
m 2·m
(m + 1)
= Kx + ,
2·m
where we used the formula
m · (m + 1)
1 + 2 + ... + m = .
2
(m)
(m)
Using claims acceleration - the essentials

(m) m−1
Ax ≈ (1 + i) 2m · Ax
and when m → ∞
Āx ≈ (1 + i)1/2 · Ax .
You will sometimes use this approximation in exercises (cfr., formula sheet). Derivation
on next slides is FYI.
(m)
(m)
Using claims acceleration - FYI
I This leads to the following approximation,
(m) m+1 m+1
Ax ≈ qx · v 2m + px · qx+1 · v 1+ 2m
m+1
+ 2 px · qx+2 · v 2+ 2m + ...
∞
X m+1
= k px · qx+k · v k+ 2m
k=0
∞
− m−1 +k+1= m+1 +k m−1 X
2m 2m
= (1 + i) 2m · k px · qx+k · v k+1
k=0
m−1
= (1 + i) 2m · Ax .
When m → ∞, we retrieve
Āx ≈ (1 + i)1/2 Ax .
(m)
Variable insurance benefits
DIY
(m)
That’s a wrap!
I You can define the present value r.v. of a death benefit, payable in continuous or discrete
time.
I You calculate first and second moments of these PV random variables.
I You relate mthly and continuous time products to their annual counterparts.
I You handle variable insurance benefits.
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven That’s a wrap! 55 / 73
That’s a wrap!
Timelines
Whole-life insurance: lifelong!
b0 b1 b2 b3 b4 b5 benefit
0 1 2 3 4 5
... time
v (1) v (2) v (3) v (4) v (5) ...
discount factors
qx 1| qx 2| qx 3| qx 4| qx ...
deferred death probabilities
Ax International Actuarial Notation

with b = (1, 1, . . . , 1) and v
That’s a wrap!
Timelines
Temporary (or: term) life insurance: maximum of n years!
b0 b1 b2 ... bn−1 0 benefit

... n
0 1 2 n−1 n+1 time
v (1) v (2) . . . v (n − 1) v (n) ...
discount factors
qx 1| qx ... n−2| qx n−1| qx ...

A1 International Actuarial Notation
x:n with b = (1, 1, . . . , 1) and v
That’s a wrap!
Timelines
Deferred whole-life insurance: no payments in first u years!
0 0 0 ... 0 d0 d1 benefit
0 1 2
...
u−1 u u+1
... time
v (1) v (2) . . . v (u − 1) v (u) v (u + 1) . . .
discount factors
qx 1| qx ... u−2| qx u−1| qx u| qx ...
u Ax International Actuarial Notation

with d = (1, 1, . . . , 1) and v
Challenge - midterm 2020
For a cohort of individuals all age x consisting of non-smokers (ns) and smokers (sm) are
given:
• mortality is based on the following:
k ns
qx+k sm
qx+k
0 0.01 0.08
1 0.03 0.12
• i = 0.05
• A1 = 0.0616 for a randomly chosen individual from this cohort.
x:2
Determine the proportion of non-smokers and smokers in this cohort at age x.
Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven That’s a challenge! 60 / 73
Challenge - midterm 2020
We reason as follows:
ns
A1 = v · qxns + v 2 · pxns · qx+1
ns
x:2
= 0.03646259
sm
A1 = v · qxsm + v 2 · pxsm · qx+1
sm
x:2
= 0.1763265.
Let ns% be the proportion of non-smokers at age x, then
A1 = ns% ·ns A 1 + (1 − ns%) ·sm A 1 .

x:2 x:2 x:2
Solving for ns% then leads to 82%, leaving 18% of smokers.
Mentimeter Challenge
Challenge - resit exam 2018-2019
For a special, fully discrete whole life insurance on (40) the following is given:
• the death benefit is 1 000 during the first 20 years, 5 000 during the next 5 years
and 1 000 afterwards,
• mortality follows the given table
• i = 0.06.
Calculate the EPV of this product.
Thus, we consider
19
X 24
X
EPV = 1 000 · v k+1 · k p40 · q40+k + 5 000 · v k+1 · k p40 · q40+k
k=0 k=20
∞
X
+1 000 · v k+1 · k p40 · q40+k
k=25
∞
X 24
X
= 1 000 · v k+1 · k p40 · q40+k + 4 000 · v k+1 · k p40 · q40+k
k=0 k=20
4
X
= 1 000 · A40 + 4 000 · v 20 · 20 p40 · v k+1 · k p40+20 · q40+20+k
k=0
= 1 000 · A40 + 4 000 · 20 E40 ·A1 .
60:5
. . . and so on for higher ages.
Now you can find
A40
20 E40
in the given table, and for
A1 = A60 − 5 E60 · A65 = 0.06674.

60:5
Challenge - midterm 2013-2014, Q3
Given
• qx+10 = 0.0083
• Ax+10 = 0.5148
• 10 Ex = 0.7055
• i = 3%.
If qx+10 is increased with 0.001 and all other assumptions stay the same, then how much
does Ax increase?
I We denote A?x for the new value of Ax , when using

?
qx+10 = qx+10 + 0.001.
I It follows:
A?x = A?1 + 10 Ex · A?x+10 .

x:10
I Two important considerations:
• we should isolate qx+10 , and also px+10 , because these change.
• px+10 is used in all k px+10 with k ≥ 1!
P9
I We know A?1 = A1 = k=0 v (k + 1) · k px · qx+k .
x:10 x:10
I We put focus on
+∞
X
A?x+10 = v (k + 1) · ?
k px+10 · qx+10+k
k=0
+∞
X
?
= v · qx+10 + v k+1 · ?
k px+10 · qx+10+k .
k=1
Thus,
+∞
" #
X
A?x = A 1 + 10 Ex
?
· v · qx+10 + v k+1 · ?
k px+10 · qx+10+k .
x:10
k=1
I Now use:
+∞
X
v k+1 · ?
k px+10 · qx+10+k
k=1
∞
X
?
= v · px+10 · vk · k−1 px+10+1 · qx+10+1+(k−1)
k=1
+∞
X
?
= v · px+10 · v l+1 · l px+11 · qx+11+l (use l := k − 1)
l=0
?
= v · px+10 · Ax+11 .
As such we find:
A?x = A 1 ? ?

+10 Ex · v · qx+10 + v · px+10 · Ax+11 .
x:10
?
I Replace qx+10 = qx+10 + 0.0001 then
A?x = A 1 +10 Ex · [v · qx+10 + v · px+10 · Ax+11 ]

x:10
+10 Ex [v · (0.001) − v · (0.001) · Ax+11 ] .
I The increase then becomes
A?x − Ax = 10 Ex · [v · (0.001) − v · (0.001) · Ax+11 ] .
Here we find Ax+11 from
Ax+10 = v · qx+10 + v · px+10 · Ax+11 (recursion),

Ax+10 −v ·qx+10
such that Ax+11 = v ·px+10 = 0.5263124.
Thus, the increase equals 0.000324453.

Mentimeter Challenge
Source: http://en.wikipedia.org/wiki/Actuarial_notation

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Life Insurance Mathematics

Faculty of Economics and Business

September 19, 2022

insurance company policyholder

Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Motivation 2 / 73

I Life insurance products are relevant in (e.g.):

• decreasing term insurance in combination with a home mortgage

• (recently) combinations of death benefit coverage with investing, as in universal life or

Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Motivation 3 / 73

I We develop valuation functions for benefits on

I We dot not cover Section 4.7.

• survival models (cfr. Chapter 2 and 3 in DHW)

• time value of money functions (cfr. Chapter 1 in our DataCamp)

Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Introduction 6 / 73

I The DHW book often uses:

• Makeham’s law for mortality (the ‘standard ultimate survival model’)

with given A, B and C (cfr. the expressions in the DHW book),

Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Assumptions 7 / 73

I Then the following equality holds:

I (Cfr. DataCamp Chapter 1, video on ‘Change of period and term structure’).

Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Assumptions 8 / 73

• i (m) the nominal interest rate compounded m times per year

• im? the mthly effective rate

Life Insurance Mathematics 2022, K. Antonio, UvA & KU Leuven Assumptions 9 / 73

I Value the following life insurance product:

• payable immediately (!) on death of the policyholder, aged x.

I Continuous setting, with a unit benefit.

Pay 1 EUR at time s

discount with v (0, s) = e −δ·s

If Tx = s, then present value r.v. takes value e −δ·s .

I Interest goes to the Expected Present Value or EPV,

with International Actuarial Notation Āx = E [e −δ·Tx ].

I Other term for EPV is Actuarial Value or Actuarial Present Value.

The EPV of the 1 EUR benefit continuous whole-life insurance product.

Cfr. the time-line: let s run from 0 to ∞ (or: ω − x).

I The second moment of the PV of the death benefit,

E [Z 2 ] = E [(e −δ·Tx )2 ] = E [e −2·δ·Tx ]

where the superscript indicates that interest force 2 · δ is used.

Var[Z ] = Var[e −δ·Tx ] = 2

I Calculate any probabilities associated with Z ,

Pr[Z ≤ 0.5] = Pr[e −δ·Tx ≤ 0.5]

with u = log (2)/δ.

I Value the following life insurance product:

• payable end of the year of death of the policyholder, aged x.

I Discrete time setting, yearly time periods, with a unit benefit.

Pay 1 EUR at time k + 1

(x) survives k years (x) dies

If Kx = k then the present value r.v. takes value e −δ·(k+1) .

I Interest goes to the Expected Present Value or EPV,

with International Actuarial Notation Ax = E [v Kx +1 ].

I Other term for EPV is Actuarial Value or Actuarial Present Value.

The EPV of the 1 EUR benefit discrete whole-life insurance product.

Pr (Kx = k) = k px − k+1 px = k px · (1 − px+k ) = k px · qx+k =k| qx ,

Cfr. the time-line: let k run from 0 to ∞ (or: ω − x).

I The second moment of the PV of the death benefit,

I This is the future lifetime of (x) in years, rounded to the lower 1

I For example, when (x) lives exactly 23.675 years

I Thus, Kx(m) = k indicates that (x) dies in [k, k + 1/m).

I Now k runs over 0, m1 , m2 , . . ..

I With probability function

(x) survives k years (x) dies

I Interest goes to the Expected Present Value or EPV,