IFRS17 Bonus Question, part d

divyacdivyac
in CIA.IFRS17-2

Hi,

Are we supposed to know how to do part d?
If so, in the solution why is that when calculating mu we use only the LIC PV(FCF) as E[X] but when calculating the Z value we standardize LIC+RA. see formulas used in the solution below:

mu = ln(LIC) - sigma^2/2 = 8.5122
Z value = (ln(LIC+RA) - mu)/sigma = 0.9364
Confidence level (using Norm.Dist) = 0.8255

Maybe this is fundamental from previous exams but I can't really remember why.

Thanks!

Comments

  • Staff-T1Staff-T1

    If you add your RA to the FCF, then it's no longer the expected value. It's some amount E(X) + y which means you can't solve for mu anymore using the provided formula should you do that. Remember, the expected value is your BEL.

    You add the RA to the FCF to determine the percentile of the risk adjustment in your loss distribution. But in order to do that, you need to know what the underlying distribution is, which is what we were doing in the prior step.

  • divyacdivyac

    Ah that makes a lot of sense, thank you!

  • AndrewLAndrewL

    Hi @Staff-T1 ,

    I have a few question here:

    1. Why do we use Insurance risk and not capital required sum(IMCO)? The cost of capital method is the compensation to meet target return on capital. I thought we would need IMCO.
    2. I tried this method below but it does not work. Could you please explain? Basically, if capital required is $1000, first year $350 capital needed. Then I multiply that by cost of capital and then discount. Similar to what we would have in the second screenshot.

    Thanks!

  • Staff-T1Staff-T1
    1. The risk adjustment should only consists of risks related to insurance contracts. Market, credit and operational risk has nothing to do with insurance contracts.
    2. Ct is the cumulative capital remaining that is needed at time t, not the incremental capital needed at time t
  • MickyBMickyB

    Is the quantile method the same thing as the confidence level method? I see the confidence level method for calculating RA in the appendix but not sure where it comes from

  • Staff-T1Staff-T1

    Yes you are right. RA is usually calculated using the cost of capital approach (above) and the quantile/confidence level method

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