IFoA SA2 flashcards

32 cards. Read the term and the definition here. The deck at the top of this page is optional.

Actuarial control cycle

A four-stage loop: define the problem, develop assumptions and a model, calculate and test results, then monitor actual experience and revise assumptions. It applies to product design, pricing, reserving and capital assessment alike.

Longevity risk direction

For annuity and pension providers, risk is that annuitants live longer than assumed, raising the cost of payments. For death-benefit writers the mirror risk is that mortality is higher than assumed.

Yearly renewable term reinsurance

The reinsurer covers mortality risk above an agreed retention for one year at a time, with premiums reset annually. It protects the cedant against high claims and lets it write larger sums at risk.

Quota share reinsurance

The reinsurer takes a fixed percentage of every risk, premium and claim. It reduces both upside and downside proportionally and is used to share volume, capital strain and experience rather than to cap peak claims.

Stop-loss reinsurance

The reinsurer pays claims above an agreed aggregate or per-risk threshold, subject to a limit. It protects against clustering or severe single losses but leaves the cedant bearing normal fluctuation.

Basis risk from reinsurance

The residual mismatch between the insurer's actual liability and the reinsurance recovery, arising from different definitions, indices or triggers. It remains an insurer risk even after the cover is bought.

Lapse and surrender risk

The risk that policyholders terminate earlier or later than assumed, affecting charges, expense recovery and reserve release. Mass lapse is especially damaging where acquisition costs are recovered over future premiums.

Guaranteed annuity option cost

An option allowing conversion at a guaranteed rate becomes valuable when market annuity rates fall. It is a financial option whose cost must be reserved and hedged, not treated as mortality risk.

Economic capital definition

The capital an insurer chooses to hold to keep the probability of insolvency below its own target over a chosen horizon. It reflects the firm's actual risk profile and diversification, unlike a prescribed regulatory formula.

Duration matching

Setting asset and liability modified durations equal so that small parallel interest-rate moves affect both sides similarly. It is a first-order hedge and leaves convexity and non-parallel shift risk uncovered.

Cash-flow matching

Selecting assets whose cash flows replicate liability outgo in timing and amount. It removes reinvestment and interest-rate risk for matched liabilities but is often infeasible or costly for long-dated or uncertain cash flows.

Embedded value components

Net assets plus the value of in-force business. The in-force value is the present value of future shareholder profits after tax, allowing for the cost of capital and the cost of guarantees and options.

New business strain

The loss recognised at inception when acquisition expenses and required reserves exceed the premiums received. It is recovered over the policy term if persistency and experience follow the pricing assumptions.

Analysis of embedded value movement

A reconciliation splitting the change in embedded value into expected return, new business contribution, experience variances, assumption changes and capital movements. It explains why EV profit differs from cash generation.

Unit-linked risk allocation

Investment risk sits with the policyholder; the insurer retains expense, persistency, operational and any guarantee risk. Charges must cover fixed costs even if fund values fall.

With-profits smoothing

Returns are smoothed across years through bonuses, with an estate absorbing fluctuation. The insurer bears risk that guarantees bite when asset returns are poor and the estate is insufficient.

Universal life credited rate risk

The insurer credits interest subject to a minimum guarantee, so it bears the risk that asset returns fall below the crediting rate. This is an interest-rate guarantee risk, not purely a mortality risk.

Conventional without-profit guarantee

A fixed sum assured or guaranteed annuity payable regardless of investment performance. The insurer bears all investment and longevity risk, so the guarantee must be explicitly priced and reserved.

Participating policy estate

Assets held in excess of the amount needed to support declared bonuses and guarantees. It absorbs adverse experience and can be distributed to policyholders or shareholders according to the rules of the fund.

Mortality assumption setting

Base mortality is derived from the insurer's own experience and industry tables, adjusted for underwriting class, sum assured and distribution channel. Trends and selection effects must be projected, not just current rates used.

Persistency assumption setting

Lapse rates are estimated by duration, product, channel and economic conditions, then projected. Assumptions must be internally consistent with premium and expense assumptions used in the same model.

Expense assumption components

Split into per-policy, per-premium and fixed overhead, each inflated at an appropriate rate. Unit costs must reflect realistic volumes, since fixed costs are spread over expected policy numbers.

Risk discount rate choice

The rate used to discount future shareholder profits in embedded value, reflecting the shareholder required return. It should be consistent with the risks of the cash flows, including any allowance for non-diversifiable risk.

Cost of capital allowance

A deduction in embedded value for capital that must be held to support the in-force business. It equals the difference between the required return on capital and the return earned on it, discounted.

Asset-liability mismatch risk

Losses from assets and liabilities reacting differently to interest rates, inflation or credit spreads. It is measured by projecting surplus under stress scenarios, not only by comparing durations.

Reinvestment risk for annuities

The risk that coupons and maturities are reinvested at lower yields than assumed, reducing the ability to meet long-dated payments. Long-dated or index-linked assets reduce, but do not eliminate, this risk.

Credit spread risk

The risk that corporate bond spreads widen, reducing asset values and increasing the cost of matching liabilities. It is a market risk distinct from default risk, though both are credit-related.

Operational risk in life insurance

Loss from failed processes, people or systems, including mis-selling, data errors and fraud. It is hard to diversify and is often capitalised using scenario analysis and expert judgement.

Diversification benefit

The reduction in total capital when risks are aggregated, because they do not all crystallise simultaneously. It depends on correlation assumptions and on whether capital can move freely between entities.

Fungibility of capital

The ability to use surplus in one legal entity to support another. Regulatory, tax and ring-fencing constraints often prevent this, so group diversification may be worth less than the model implies.

Risk-based capital purpose

To ensure a stated high probability that the insurer can meet obligations, by holding capital against quantified adverse deviations. It links capital to the risk profile rather than to premium volume alone.

Product profitability testing

Project premiums, claims, expenses, reserves and capital for the policy lifetime, then discount shareholder cash flows at a risk-adjusted rate. Test sensitivity to mortality, lapse, expense and interest rate changes.