Making entity different

jc2018

Hi,

I have hard time understanding what they mean by "making the entity different".
What does it mean by an event making the company different?

Thanks,

graham

Yes, this is a little vague in the paper. The question in the decision tree is:

• Does the event make the entity different?

If you then look at the 2 possible answers in the decision tree, one says "on or before CalcDt" and the other says "after CalcDt". If you think about this, the implication is that the event always makes the entity different. The critical question is when it made the entity different. Maybe a better way to phrase the question is:

• Does the event imply the entity was different from what it appeared to be on the CalcDt.

The example of reinsurer failure shows the difference. There are 2 cases and for both cases the actuary became aware of the failure after the CalcDt but before the RptDt, so both are subsequent events. But...

• Case 1: On the CalcDt (Dec 31) the reinsurer seemed to be in good health, but on Jan 15, the reinsurer went insolvent. It turned out the insurer's health had been gradually deteriorating over a longer period of time. This meant the entity (the reinsurer) was actually not in good health on the CalcDt. In other words it was different on the CalcDt than it appeared to be at the time. So you would answer "yes". (Or that it made the entity different "on or before" the CalcDt.)

• Case 2: On the CalcDt (Dec 31) the reinsurer seemed to be in good health, but on Jan 15 went insolvent (same as Case 1.) But the reason for failure was a catastrophe on Jan 15, and this is the critical difference. The insurer was in good health on the CalcDt, so the insolvency event did not imply the insurer was different from what it appeared to be on the CalcDt. So you would answer "no". (Or that it made the entity different "after" the CalcDt.)

Another good example to review is the change in industry benchmarks. In that example, the new information did not make the entity different from what it appeared to be on the CalcDt. The reason is that the new LDFs were probably not very different from the old ones. (If there was a big change in LDFs, then you might answer yes instead.)

jjj820

Hi Graham,

For "Judical Decision" example, could you please help me understand why the event makes the entity different on or before calculation date?

Can i interpret this way ....

they had been talking about the introduction of $4000cap before the calculation date and then they made the decision in Feb 2008 (after the calculation). it made the entity different on or before the calculation date.

What if they only started the discussion about the $4000cap AFTER the calculation date and made the decision in Feb 2008. will this make the entity different AFTER the calculation date?

Thank you !

graham

The way I understood the description in the source text is that the $4000 cap had been in place the prior year so insurers had capped their reserves at $4000 (for non-pecuniary damages for soft tissue injuries.) But when the cap was overturned on Feb 8, any claims that had been capped at $4000 the year before could now potentially settle for more than $4000, so the original reserves were too low. This is why the Feb 8 decision makes the entity different on or before the calculation date: The year-end reserve liability suddenly changed (increased.)

From the way you asked your question, it sounds like you're thinking the regulators were thinking about imposing a cap (either before or after the calculation date) but then on Feb 8 decided not to implement the cap. I don't think that's how it worked. I think the cap was already in place but it was challenged in court and eventually struck down on Feb 8.

jjj820

Thank you Graham! I think I misunderstood that part.

oxalis

Hi Graham,

I am also confused by the 'judicial decision' case as for why it would make the entity different before the calc date, how do we know if the decision is going to be applied on all open claims or only claims occurring after Feb 8. if it applies on all open claims then yes it would make the entity different before, if it applies on claims occurring after Feb 8 then it would make the entity different after the calc date?

Thanks,

graham

I suppose we don't know for sure how each insurer is going to deal with the removal of the cap. The key fact is that now there is the possibility for claims reserved the prior year to increase so the entity could possibly be different on the CalcDt than was previously thought. (For some insurers, it might not make the entity different an different but we aren't given any further information about specific companies.)

oxalis

Sorry, I still don't quite understand the concept of making the entity different, can you please explain why the change in industry benchmarks doesn't make the entity different?
• Different? event did NOT make entity different - LDFs don't change much from qtr-to-qtr-->FINAL ACTION: nothing

for me it's more reasonable to conclude as below:
• Different? yes make entity different before CalcDt, but not material as LDFs don't change much, so final action: no action or only inform

graham

Even though we have a decision tree to guide our decision, there is no precise formula so I think the best way to understand the subsequent events topic is to follow the examples as given in the source text. That's all you'll have to do for the exam. Try not to overthink it. The scenarios provided in the exam problems virtually always mirror one of the 8 scenarios from the source text.

But for your question above: I think you have a valid point, and the source text isn't very clear. They seem to be saying that the event does not make the entity different because the change is not material. Your point, if I understand correctly, is that the change in industry benchmarks would make the entity different (because the estimates of ultimate loss would change) but if the changes in benchmarks are small then the difference would not be material.

In any case, I think the best option (assuming the change is not material) is to do nothing. The reader of the report doesn't need to be told that LDFs changed slightly if there is no material effect. LDFs virtually always change from valuation to valuation and this is a normal part of reserving that usually doesn't require any extra explanation.

AndrewL

Hello @graham,

Could you please explain why the storm event made the entity different after calculation, but the Judicial one made the entity different before calculation?

If I use your above statement "Does the event imply the entity was different from what it appeared to be on the CalcDt.", I would classify them as no before calculation, yes after calculation.

Any comment?

Thanks,
Andrew

graham

For the storm example, no claims would have been associated with the storm as of the calculation date since it hadn't yet occurred, so it couldn't affect the prior year's financial statements. The entity would only be impacted after the storm, which would be after the prior year-end calculation date.

In the judicial example, however, changes after the calculation date could affect claims opened before that date. Specifically, the removal of the minor injury cap might necessitate increased reserves for claims that were open prior to the calculation date, thereby affecting the prior year-end financial statements. This makes the entity different retroactively, whereas new claims after the law change would likely be reserved at higher values from the start.