Commutation example

thesuperactuarythesuperactuary
in Odo.FinReg

Under 4 commutation practice problem,

Where does the column 5 - pmt rem @ begining yr come from? Is this given values?

Thanks!

Comments

  • Staff-T1Staff-T1
    edited March 2022

    Hi,

    You would take the undiscounted liabilities to be commuted multiplied by the remaining % of payments remaining. Ex:
    2016: 3M(100%) = 3M <- You still have to pay the full amount
    2017: 3M    (1 - 20%) = 2.4M <- You already paid 20% in 2016 and have 80% left to pay
    2018: 3M*(1-30%) = 2.1M <- You have already paid 30% in 2016 and 2017 and have 70% left to pay
    And so on....

  • tracy95tracy95

    Hi, why is the number of year to discount for risk margin at 2016 1 instead of 0? Isnt the pmt remaining @ beginning of 2016 is at current point of time?

  • Staff-T1Staff-T1

    The payment is made in the middle of 2016 so you would have to discount for half a year

  • tracy95tracy95

    Sorry, are you referring to the column 3? To clarify, I am asking column 7 and why does it start with 1 instead of 0?

  • Staff-T1Staff-T1

    Yeah I was referring to column 3 whoops. For column 7, you only release the capital at the end of the year because you need to hold capital for each period -> Starting at 0 would mean you'd be releasing capital for 2016 before 2016 has even started!

  • tracy95tracy95
    edited April 2022

    Thanks! I have a follow-up question. To calculate (6) -cost of capital, why we are multiplying to the payment remaining@beginning of the year instead of to payment remaining@end of the year?

  • Staff-T1Staff-T1

    Taking 2016 as an example. We would like to calculate the cost of capital for that year. Thus we need to calculate the amount of capital required for 2016 (derived from the payment remaining at the beginning of the year). If we multiply by payment remaining at the end of the year, we would be looking at the cost of capital for 2017.

    To further reiterate this point, if you were to multiply to the payment remaining at the end of the year, there would be no cost of capital for 2019. That wouldn't make sense as we would still have unpaid at the beginning of 2019

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