Reference Portfolio
In the text book, for the definition of base portfolio it says: a portfolio of assets [...] adjusted to removed returns related to risk characteristics [...] that are not iherent in insurance contract.
From they way I understand it, that implies that the discount rate of the Base Scenario is AFTER removing the characteristics not inherent to the insurance contract.
However, in the Top-Down approach to ge tthe discount rate, it says that the discount rate is the Reference Portfolio Rate minus Credit/Market risk&Other.
So what is the difference between "characteristics not inherent to the insurance contract" and "Credit/Market risk&Other"?
Comments
Actually, I've just noticed a sentence on p. 12:
_A Top-down approach wherby the yield to maturity of a reference portfolio of assets is adjusted "to eliminate any factors that are not relevant to insurance contracts".
_
Now I'm even more confused. By definition, on p.9, it says that the Reference Portfolio is a portfolio adjusted to remove returns related to what is not related to insurance contract.
But now it says that the Top-down approach uses the yield of the reference portfolio THEN it adjusted it to remove the same thing that it shouldn't include.
What did I misunderstand? Thank you
What are you referring to when you talk about the base scenario? This is not terminology I am familiar with when it comes to discount rates under IFRS17 in the industry.
I've reread the educational notes and I think the confusion here is the vague description of what a reference portfolio is.
The way I see it is that reference portfolio is your chosen basket of assets (Not Adjusted for anything). You then adjust this reference portfolio to remove items not relevant to insurance risk such as credit, currency, and FX risk. What you are left with is either your top-down discount rate or your illiquidity premium + risk free rate.
Honestly I am not sure why the reference portfolio is defined this way in the paper. Also, there is no difference between characteristics not inherent to the insurance contract and credit/market risk&other
Sorry, I mixed up Base scenario and Reference Scenario. I used them interchangeably in my message.
And thank you for your explanation, I think that makes more sense like this