Spring 2015 Q10 a)
Hi, I'm having trouble understanding these concepts of capping adjustments and rebalancing accordingly. I thought I understood the chapter on Implementation, but now the steps between that chapter and the solution above are getting very mixed up and confusing to me.
I think I understand up to the premium shortfall (new premiums uncapped - new premiums capped = shortfall), after which redistributing it gets really confusing. For now, I will just lay out my questions vaguely, and then I will try to make them more specific/articulate if I can make progress on understanding.
1) When does the shortfall apply to the base rate rather than to the other factors? When does it apply to both?
2) When does the shortfall get applied to the original premium (e.g. in the solution above, which I think makes sense to me) vs. the new premium levels (e.g. in the Implementation chapter, which also somewhat makes sense to me...)?
Comments
Oh.. I think the answer to my 2nd question is that you can do it either way, but if you apply the shortfall to the original premium, then you need to apply that change to the original indicated change relativity (i.e. add the original indicated relativity change to (shortfall/initial EP) to get the final relativity change), whereas if you apply the shortfall to the new premium, then you need to multiply that (1+(shortfall/new EP)) to (1+original relativity change), which makes sense, mathematically.. The examiner's report also has a "typo" where sample 2's "55000 * 0.9231" should be in parentheses.
How it all fits together with base rate changes and whatnot, though, is still floating around in my head..
I'm starting to get it.. I tried to solve the problem using a base rate change to get to the same overall impact for my own understanding; attached for reference.
I think the short answer to my first question is that theoretically you can adjust base rates and/or relativities in these types of problems, but when there's an indicated (or more accurately, base?) relativity given (e.g. in the Implementation chapter), you can't adjust the base level's relativity, so you apply changes to the base rate to avoid that. In the question above, you could do either, really, but it's easier to not think about/apply base rate changes.
Yes, this is definitely a difficult topic. You are doing the right thing by going over the solution several times and giving it detailed thought. It's just something that takes time to sink in. Writing your thoughts out in the forum is a good strategy!
I'm assuming you've answered your own questions?
I think so! Somehow it all somewhat came together. Thank you.
Good luck on your upcoming exam! You seem well-prepared!
Thank you so much!