Chapter 3: External Environment

Question 1

15 Factors to consider in the external environment

Answer 1

C - Commercial issues (competition and u\w cycle)
R - Regulation
E - Environmental issues
A - Accounting standards
T - Tax
E - Economic issues (interest r., inflation, growth, exchange r.)

G - Governance
R - Risk management requirements
E - Experience overseas
A - Adequate capital / solvency
T - Trends in demographics

L - Lifestyle considerations
I - Institutional structure (mutual or proprietary)
S - Social trends
T - Technology
S - State benefits

Question 2

Underwriting cycle

Answer 2

Profitability in the various insurance classes tends to go in cycles driven by market forces of supply and demand.

When business is profitable, more insurers enter the market.
PREMIUMS REDUCE as insurers compete for market share.
This leads to reduced profits or solvency problems.
The position may be accentuated by catastrophes or by the economic climate.

At the bottom of the cycle, insurers leave that market,
or reduce their involvement in the classes concerned.
Eventually PREMIUMS INCREASE to cover the losses incurred.

Question 3

Tax

Answer 3

• If individuals can take cash lump sums out of the pension fund then the size for annuities will be lower
• Also if payments on death are subject to tax this will affect the sales of term business • The tax treatment on the profits from either of these products also needs to be considered

Question 4

Accounting

Answer 4

• The way that benefits need to be reported in company accounts may influence the design of the products
• E.g. the different accounting requirements for setting the provisions for the two different types of contract

Question 5

Adequacy of Capital

Answer 5

• The capital requirements of the two products will have an impact the pricing
• Any guarantees (in particular five year guarantees for annuity products) may require more capital/solvency margins
• Sol II- Will be particularly interested in the investments backing the annuity business with Market and Credit risks need to be monitored

Question 6

Demographic trends

Answer 6

• Age profile (savings vs ret products)
• Diff levels of financial understanding of products
• Wealth/ spread of wealth

Question 7

Risk Management requirements

Answer 7

Will need to consider the operational and business risk for this product

Question 8

State benefits

Answer 8

• Generous state ben = lower sales of private healthcare products (and annuities?)
• Insurance likely to be purchased on top of state bens. Bens means tested = only those over certain level of income will need insurance

Question 9

Corporate Governance

Answer 9

Will need to consider whether this product changes the corporate governance of the company

Past failure of insurer may lead to much lower take up of insurance products (lack of confidence)

Question 10

Economic Outlook – Recession impact

Answer 10

• There may be higher lapses for the terms assurance as people look at their outgoings
• The demand for annuities will change depending on individual’s economic positions (e.g. may want to work longer if they retain job – less early retirees)

Question 11

Technology

Answer 11

• The term assurance could be simplified so that it could be sold easily over the internet, taking advantage of the technological changes
• Other technological changes could speed up (and improve) the process of underwriting for both products
• Consider impact of medical advances
• New tech may significantly improve the process of obtaining information from medical records (if a national register is easily sourced), and this might also reduce the possible moral hazards of filling in the forms incorrectly

Question 12

Lifestyle considerations

Answer 12

• Annuitants could take up more exercise in retirement and hence become healthier, this would impact the life expectancy and hence impact the annuity profits/losses
• Having got term assurance there could be a change to the perception of smoking and hence more smokers – increasing the mortality for the product and hence increased losses

Question 13

Environmental issues

Answer 13

Will need to be considered in order to not hamper the selling of these 2 products

Question 14

Experience abroad

Answer 14

Need to consider the international market to see if product enhancements could be used in the two products

Question 15

Social trends

Answer 15

• Changing culture and social trends could have a major impact for the products
• E.g. If there is increased taxes on smoking and hence a reduced amount of people smoking then this will affect annuities by increasing longevity (hence potential losses and/or reduced payments for new business)
• Or for term assurance the government abolished free health care then this could mean more people died as they could not afford the healthcare this will mean higher payouts, and expected higher premiums for new business
• Countries with a tradition of extended family providing care for elderly will see much lower sales in long term care products and less retirement provision
• Home ownership prevalent = greater sale of endowment and TA policies