2023/4/18 14:04 Report - Review Assignment - Practice

CA
L3.3.3
Insurance 1Q
Integrated
Example
Sections L3 L3.3 L3.3.3 Insurance Integrated Example

Coach's Remarks:

This problem is NOT an exam-styled problem. It is a multiple-part example that we

intentionally included to illustrate how various relevant concepts can be applied
based on the same question prompt. Individual parts of this question can show up
as multiple-choice questions on the exam.

Naruto, age 40, purchases an insurance policy with the following present value random
variable:

2,000vK40(4)+ 14 for K (4) < 15

Z = 1,000vK40(4)+ 14 for K40(4) ≥ 15
{
40

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2023/4/18 14:04 Report - Review Assignment - Practice

(a) Describe in words the benefit being valued.

(b) Write down expressions for the expected values of Z and Z 2 in terms of standard
actuarial notation for insurance benefits.

You are given:

I. Mortality follows the Standard Ultimate Life Table.

II. Deaths are uniformly distributed over each year of age.

III. i = 0.05
(c) Show that the expected value of Z is 130 to the nearest 10. You should calculate the
value to the nearest 1.

(d) Calculate the standard deviation of Z.

(e) Calculate the probability that Z is less than 400.
(f) The insurance policy is sold to a group of 400 independent lives age 40. Using the
normal approximation, calculate the size of the fund needed so that there is a 95%
probability that the fund will be adequate to pay all benefits.

No Answer Submitted

Exhibit

Solution

Written Solution

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2023/4/18 14:04 Report - Review Assignment - Practice

Part a:
A life insurance policy issued to a life age 40 that pays a death benefit of $2,000 at the end
of the quarter of death before age 55 or $1,000 at the end of the quarter of death after age
55.

Part b:
Based on the given Z, the expected value of Z is:
E[Z] = 2,000A(4)401: 15 + 1,00015 A(4)40 |

= 2,000A(4)401: 15 + 1,000 A(4)40 − A(4)401: 15

[ ]

= 1,000A(4)401: 15 + 1,000A(4)40

In order to find the expected value of Z2, first determine Z2:

(4)+ 14
2 2,0002 v2 K 40
Z = 1,0002v2 K40(4)+ 14
(
for K (4) < 15
40)

{ (
for K40(4) ≥ 15
)

Then, take the expectation of Z 2:

E[Z2] = 2,0002 ⋅ 2A(4)401: 15 + 1,0002 2A(4)40 − 2A(4)401: 15
[ ]

= (2,0002 − 1,0002) ⋅ 2A(4)401: 15 + 1,0002 ⋅ 2A(4)40

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2023/4/18 14:04 Report - Review Assignment - Practice

Part c:
From Part b, we have:

E[Z] = 1,000A(4)401: 15 + 1,000A(4)40

Thus:

A(4)40 = i(4)i A40

= 1.01856(0.12106)
= 0.123307
A(4)401: 15 = i(4)i A140: 15
= 1.01856[A40 − 15 E40A55]
= 1.01856[0.12106 − (0.78113)(0.60655)(0.23524)]
= 1.01856(0.0096046)
= 0.009783
Finally, we have:

E[Z] = 133.09
◼

Part d:
From Part b, we have:

E[Z2] = (2,0002 − 1,0002) ⋅ 2A(4)401: 15 + 1,0002 ⋅ 2A(4)40

To evaluate 2A, we need to find the equivalent interest rate evaluated at twice the force of
interest:

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 i = 0.05 2
2023/4/18 14:04 Report - Review Assignment - Practice

1 + j = (1 + i) ⇒ j = 0.1025
j (4) 4
1 + 4 = 1 + j ⇒ j (4) = 0.098780
j = 1.037656
( )

j (4)

Thus:

2A(4) = j ⋅ 2A40
40 j (4)
= 1.037656(0.02347)
= 0.024354
2A(4)1 = j ⋅ 2 A1
40: 15 j (4) 40: 15
= 1.037656 2A40 − 215 E402A55
= 1.037656 0.02347 − v2(15) 97,846.2
[ ]

[
99,338.3 (0.07483) ( ) ]

= 1.037656(0.0064161)
= 0.006658
E[Z2] = (2,000 2 − 1,0002)(0.006658) + 1,0002 ⋅ (0.024354) = 44,327
Var[Z] = E[Z2] − (E[Z])2 = 44,327 − 133.092 = 26,614
‾‾‾‾‾‾= 163
SD[Z] = √26,614
◼

Part e:
For insurance, the longer the insured lives, the more periods the insurance benefits get
discounted, and thus the smaller the PV of insurance benefits. Thus, is a decreasing Z
function of .K40(4)
Note that:

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2023/4/18 14:04 Report - Review Assignment - Practice

For K40 < 15, the end point is K40 = 14 34 , in which case
(4) (4)
Z = 2,000v14 34+ 14 = 2,000v15 = 962 . Since Z is a decreasing function of K40 , the
(4)
smallest possible value of Z when K40 < 15 is 962. Thus, it is not possible for Z to be
(4)
less than 400 when K40 < 15.
(4)
For K40 ≥ 15 , the starting point is K40 = 15, in which case
(4) (4)
Z = 1,000v15+ 14 = 1,000(4)v15.25 = 475. Since Z is a decreasing function of K40(4) , and
there is no end point to K40 ≥ 15 , it is possible for Z to be less than 400 when
K40(4) ≥ 15.
The probability that Z < 400 is:
Pr[Z < 400] = Pr 1,000vK40(4)+ 14 < 400
[ ]

= Pr 1.05− K40(4)+ 14 < 0.4

( )

= Pr − K40(4) + 14 ln1.05 < ln0.4

[ ]

[ ( ) ]

= Pr K40(4) > 18.53

[ ]

= Pr K40(4) ≥ 18.75
= 18.75p40
[ ]

= l58.75
l40
= 0.25 ⋅ 97,195.6 + 0.75 ⋅ 96,929.6
99,338.3
= 0.9764
◼

Part f:
Let S be the aggregate of the PVs for all 400 independent policies. Thus, we have:
S = Z1 + Z2 + … + Z400
E[S] = 400E[Z] = 400(133.09) = 53,236
Var[S] = 400Var[Z] = 400(26,614) = 10,645,600
We want the value of f such that:

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 Pr[S < f] = 0.95
2023/4/18 14:04 Report - Review Assignment - Practice

Pr √S Var[S]
[
− E[S] < f − 53,236 = 0.95
‾‾‾‾‾‾‾ √10,645,600
‾‾‾‾‾‾‾‾‾‾ ]

Φ √f10,645,600
− 53,236 = 0.95
‾‾‾‾‾‾‾‾‾‾[ ]

f − 53,236 = Φ−1 (0.95) = 1.645

‾‾‾‾‾‾‾‾‾‾
√10,645,600
f = 58,603
◼

Video Solution

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