Hmm...that's a conceptual question as to why the formula is defined the way it is. You could probably make a case for either including it or excluding it.
One possible reason for excluding it in the formula is that realized gain is a one-time benefit, possibly due to market fluctuations that are beyond the control of the insurer. (So next time you could just as easily have a realized loss that would cancel out the realized gain.) But investment income (maybe coupon payments from bonds) and income from subsidiaries are more "regular". Those forms of income are likely recurring and so offer a more accurate assessment the insurer's true revenue-generating capacity.
I'm really just guessing, but I think that's a reasonable explanation.
In general for MSA the answer will always be the same: Because MSA said so. Don't obsess over the logic here, MSA is a Canadian company that decides how they do things - they've excluded gains from most of the "income" based ratios (NPE and Revenue)
Investment income (excluding gains) does not include investment expenses. That means you have to explicitly subtract investment expenses. But just to be safe, it's a good idea to briefly state an assumption like that when answering an exam question.
Extended answer:
To check, I looked up a closely related exam problem. Here, investment expenses are not included in investment income. That means you have to subtract expenses from income to get net income.
(Note that for calculating investment yield, you do have to include realized gains/losses, unlike for ROR where you do not include realized gains/losses.)
Unfortunately, there is no clear answer to this because the solutions in the examiner's reports often contradict themselves as well as the MSA Ratios source text. But luckily you usually don't have a choice. They often only provide "investment income" or "total investment income" and do not provide "investment expenses".
Here's the best advice I can given you:
Make sure to state any assumptions where there is any possibility of confusion.
Write you answer clearly.
If the problem provides "investment expenses" you'll likely have a better chance of getting the answer the graders want if you do subtract investment expenses, even for the ROR. (But again make sure you state any assumption so the graders know you understand the material.)
More details (which may be more confusing than helpful actually):
A strict interpretation of the MSA Ratios source text is that InvInc = 7500 in your example. You would not subtract investment expenses because the formula for ROR uses "investment income" not "net investment income". It's confusing however because the source text never explicitly defines investment income. The formula for "adjusted investment yield" has a term "net investment income" so it does seem that the use of the qualifier "net" is important and indicates that investment expenses should be subtracted. (This implies "investment income" has not yet had expenses subtracted.
You'll see that you're given "net investment income" but in the solution for ROR, they write "investment income" but then use the value of "net investment income". It seems to me that the people who created the question don't fully understand the material themselves.
Anyway, like I said, there is no clear answer but usually the problem doesn't give you a choice. You just have to use whatever the problem provides in the way that makes the most sense.
Comments
Hmm...that's a conceptual question as to why the formula is defined the way it is. You could probably make a case for either including it or excluding it.
One possible reason for excluding it in the formula is that realized gain is a one-time benefit, possibly due to market fluctuations that are beyond the control of the insurer. (So next time you could just as easily have a realized loss that would cancel out the realized gain.) But investment income (maybe coupon payments from bonds) and income from subsidiaries are more "regular". Those forms of income are likely recurring and so offer a more accurate assessment the insurer's true revenue-generating capacity.
I'm really just guessing, but I think that's a reasonable explanation.
In general for MSA the answer will always be the same: Because MSA said so. Don't obsess over the logic here, MSA is a Canadian company that decides how they do things - they've excluded gains from most of the "income" based ratios (NPE and Revenue)
Hi Graham,
Does "investment income (excluding gains)" above exclude Investment expenses?
Thank you.
Investment income (excluding gains) does not include investment expenses. That means you have to explicitly subtract investment expenses. But just to be safe, it's a good idea to briefly state an assumption like that when answering an exam question.
Extended answer:
To check, I looked up a closely related exam problem. Here, investment expenses are not included in investment income. That means you have to subtract expenses from income to get net income.
In part (a.i) of the problem below, you need net investment income to calculate investment yield:
(Note that for calculating investment yield, you do have to include realized gains/losses, unlike for ROR where you do not include realized gains/losses.)
Hi Graham,
Thank you.
If we were asked to calculate RoR in 2019Spring21.
ROR = (U/W.Inc - CapGains + InvInc + IncFrmSubs ) / GWP
Does InvInc = 7500 or InvInc = (7500-800) ?
Thanks !
Unfortunately, there is no clear answer to this because the solutions in the examiner's reports often contradict themselves as well as the MSA Ratios source text. But luckily you usually don't have a choice. They often only provide "investment income" or "total investment income" and do not provide "investment expenses".
Here's the best advice I can given you:
More details (which may be more confusing than helpful actually):
A strict interpretation of the MSA Ratios source text is that InvInc = 7500 in your example. You would not subtract investment expenses because the formula for ROR uses "investment income" not "net investment income". It's confusing however because the source text never explicitly defines investment income. The formula for "adjusted investment yield" has a term "net investment income" so it does seem that the use of the qualifier "net" is important and indicates that investment expenses should be subtracted. (This implies "investment income" has not yet had expenses subtracted.
But if you look at 2016.Spring Q23:
You'll see that you're given "net investment income" but in the solution for ROR, they write "investment income" but then use the value of "net investment income". It seems to me that the people who created the question don't fully understand the material themselves.
Anyway, like I said, there is no clear answer but usually the problem doesn't give you a choice. You just have to use whatever the problem provides in the way that makes the most sense.