Spring 2018 Q19 b.iv & c

Tony88pass

Hi Graham,

If the investment rate is increasing, wouldn't that be in insurer's favor? Since the liability would be lower than expected. For part c, would force sale/rating agency downgrade still be applicable in this case? I understand they are applicable when the inv rate is decreasing.

Thanks

graham

For b.iv:

• Yes, an increase in interest rates may very well benefit a company, but the question was trying to see if you could come up with something less obvious. You had to come up with a scenario where an increase could adversely affect the company. You have to think a little harder, but if I were answering this question, I would choose an adverse scenario about debt payments. If interest rates increase, they would have to pay more interest to service their debts.
• The answer given in the examiner's talked about the FV (Fair Value) of assets (like bonds) whose value may indeed go down if interest rates increase, but the concept of Fair Value was from a reading that has been removed from the syllabus.

For c:

• They seemed to accept practically anything here. I think forced sale would be valid for my adverse scenario of higher debt payments because higher debt payments could eventually lead to insolvency. A regulator may force a sale (and liquidation) to avoid a future insolvency.
• A rating agency downgrade might also work as a ripple effect if higher debt payments are required because that would deplete capital and weaken a company's financial condition.