Economic Valuation Models for Insurers

Recently much attention has been given to the approaches insurers undertake in valuing their liabilities and assets. For example, in 1994 the American Academy of Actuaries created a Fair Valuation of Liabilities Task Force to address the issue. In 1997, the Academy established a Valuation Law Task Force and a Valuation Tools Working Group to investigate the various valuation approaches extant and to make recommendations on which models are best suited to the task. Much of the published work has focused on attributes of the various models, their strengths and shortcomings. Some of the work has addressed the larger questions, but in our view, it is useful and necessary to provide a taxonomy of approaches and evaluate them in a systematic way in accordance with how well they achieve their aims. In this paper we focus primarily on the economic valuation of insurance liabilities, although we do address some valuation issues for assets. We begin in Section I by defining insurance liabilities. Next, in Section II, we discuss the criteria for a good economic valuation model. This is followed by a taxonomy of valuation models in Section III. In Section IV, we examine insurance liabilities in the context of this taxonomy and identify the minimum requirements of an economic valuation approach that purports to value them adequately. An illustration of the application of a modern valuation model is given in Section V. We conclude in Section VI by discussing some limitations of our analysis, and offer some recommendations for implementation.

Components of Insurance Firm Value and the Present Value of Liabilities

In this paper, we discuss the relation between the market value of insurance company owners' equity and various components that contribute to that value. The effect of firm insolvency risk on each component of value is discussed in turn. One natural consequence of this analysis is a conceptual framework for estimating the value of insurance liabilities.

Seasonality and determinants of child growth velocity and growth deficit in rural southwest Ethiopia

Background: Ethiopia faces cyclic food insecurity that alternates between pre- and post-harvest seasons. Whether seasonal variation in access to food is associated with child growth has not been assessed empirically. Understanding seasonality of child growth velocity and growth deficit helps to improve efforts to track population interventions against malnutrition. The aim of this study was assess child growth velocity, growth deficit, and their determinants in rural southwest Ethiopia. Method: Data were obtained from four rounds of a longitudinal household survey conducted in ten districts in Oromiya Region and Southern Nations, Nationality and Peoples Region of Ethiopia, in which 1200 households were selected using multi-stage cluster sampling. Households with a child under 5 years were included in the present analyses (round 1 n = 579, round 2 n = 674, round 3 n = 674 and round 4 n = 680). The hierarchical nature of the data was taken into account during the statistical analyses by fitting a linear mixed effects model. A restricted maximum likelihood estimation method was employed in the analyses. Result: Compared to the post-harvest season, a higher length and weight velocity were observed in pre-harvest season with an average difference of 6.4 cm/year and 0.6 kg/year compared to the post-harvest season. The mean height of children in post-harvest seasons was 5.7 cm below the WHO median reference height. The mean height of children increased an additional 3.3 cm [95% CI (2.94, 3.73)] per year in pre-harvest season compared to the post-harvest season. Similarly, the mean weight of children increased 1.0 kg [95% CI (0.91, 1.11)] per year more in the pre-harvest season compared to the post-harvest season. Children who had a low dietary diversity and were born during the lean season in both seasons had a higher linear growth deficit. Being member of a highly food insecure household was negatively associated with higher weight gain. Having experienced no illness during the previous 2 weeks was positively associated with linear growth and weight gain. Conclusion: Child growth velocities and child growth deficits were higher in the pre-harvest season and post-harvest season respectively. Low dietary diversity and being part of a highly food insecure household were significantly risk factors for decreased linear growth and weight gain respectively

Default risk and the effective duration of bonds

Basis risk is the risk attributable to uncertain movements in the spread between yields associated with a particular financial instrument or class of instruments, and a reference interest rate over time. There are seven types of basis risk: Yields on 1) Long-term versus short-term financial instruments, 2) Domestic currency versus foreign currencies, 3) Liquid versus illiquid investments, 4) Bonds with higher or lower sensitivity to changes in interest rate volatility, 5) Taxable versus tax-free instruments, 6) Spot versus futures contracts and 7) Default-free versus non-default-free securities. Basis risk makes it difficult for the fixed-income portfolio manager to measure the portfolio's exposure to interest rate risk, heightens the anxiety of traders and arbitrageurs who are hedging their investments, and compounds the financial institution's problem of matching assets and liabilities. Much attention has been paid to the first type of basis risk. In recent years, attention has turned toward understanding the relation between credit risk and duration. The authors focus on that, emphasizing the importance of taking credit risk into account when computing measures of duration. The consensus of all work in this area is that credit risk shortens the effective duration of corporate bonds. The authors estimate how much durations shorten because of credit risk, basing their estimates on observable data and easily estimated bond pricing parameters.Banks&Banking Reform,Payment Systems&Infrastructure,International Terrorism&Counterterrorism,Economic Theory&Research,Insurance&Risk Mitigation,Environmental Economics&Policies,Strategic Debt Management,Economic Theory&Research,Banks&Banking Reform,Insurance&Risk Mitigation

The Effect of Transaction Size on Off-the-Run Treasury Prices

A price pressure effect is implied by segmentation in the market for a security. An empirical property of a segmented market is that the price of the security is sensitive to supply and demand conditions for that specific security, absent changes in risk and absent any new information. This paper examines intra-day trading data from the inter-dealer broker market for U.S. Treasury securities and finds that there is a price pressure effect in the off-the-run Treasury market. Thus, securities that would appear to be very close substitutes, i.e., on-the-run and off-the-run Treasury bonds, behave as if there is some degree of market segmentation. There have been several studies of price pressure in the equity market and Treasury bill market but this is the first study of the off-the-run Treasury note and bond market to investigate a price pressure effect using intra-day data. It is also the first study to analyze price pressure through matched pairs of securities that differ only in liquidity and with high frequency data.

Evaluating Pension Insurance Pricing

The Pension Benefit Guaranty Corporation (PBGC)’s Pension Insurance Modeling System (PIMS) model has taken on the Herculean task of modeling in detail and under many scenarios the cash outflows associated with the pension obligations they have assumed. This paper’s comments are focused almost entirely upon PBGC’s termination liabilities, and address four pressing issues: (1) the need to discount the liability stream by current riskless interest rates instead of using corporate bond rates that reflect credit risk, call risk, and other risks, or using some ad hoc prescribed average of past rates; (2) the need to use a term structure of interest rates; (3) the need to employ more useful investment management benchmarks; and (4) how to implement a relevant and rigorous liability benchmark

Insurance loss coverage and demand elasticities

Restrictions on insurance risk classification may induce adverse selection, which is usually perceived as a bad outcome. We suggest a counter-argument to this perception in circumstances where modest levels of adverse selection lead to an increase in `loss coverage', defined as expected losses compensated by insurance for the whole population. This happens if the shift in coverage towards higher risks under adverse selection more than offsets the fall in number of individuals insured. The possibility of this outcome depends on insurance demand elasticities for higher and lower risks. We state elasticity conditions which ensure that for any downward-sloping insurance demand functions, loss coverage when all risks are pooled at a common price is higher than under fully risk-differentiated prices. Empirical evidence suggests that these conditions may be realistic for some insurance markets