2016 American Academy of Actuaries. All rights reserved. May not be reproduced without express permission. ADDITIONAL LIABILITY ASSUMPTION OVERVIEW

Transcription

1 2016 American Academy of Actuaries. All rights reserved. May not be reproduced without express permission. ADDITIONAL LIABILITY ASSUMPTION OVERVIEW

2 Agenda Model Validation/Governance of Assumptions General Assumption/Margin Development Expenses and Taxes Term Life Assumptions ULSG Assumptions Case Study 2 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

3 Model Validation/Governance of Assumptions Key topics to be covered o Why it is important o General areas to consider o Initial baselining and types of deliverables o Continuation of validation controls o Best practices o Typical areas of major findings 3 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

4 Model Validation Can Create Opportunities Why should companies undertake model validation? Model validation adds credibility in the eyes of senior management Allows for a thorough understanding of the strengths and limitations of existing processes, and identifies areas of possible remediation (errors, operational risks and/or inefficiencies) Increases confidence that the results are right A parallel model build in a different platform is a more robust/stronger statement for auditors than simply reviewing a model 4 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

5 An Earnings Argument for Robust Model Validation Without Formal Model Validation and Governance Errors discovered and addressed in the course of normal operations, or operational issues discovered later Q Q1 Q2 Q3 Q Q1 Q2 Q3 Earnings without Errors Earnings with Errors Realized over Time 5 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

6 An Earnings Argument for Robust Model Validation Sum of Errors discovered in advance and addressed via MV After Formal Model Validation and Governance Q Q1 Q2 Q3 Q Q1 Q2 Q3 Earnings without Errors Earnings with Errors Corrected in Q PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

7 What Do We Mean by Model Validation? Sensitivity testing Other types of Model Validation 7 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

8 What Do We Mean by Model Validation? Micro Validation (Technical review) Macro Validation Controls 8 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

9 Baselining A fundamental first step to ensure ongoing compliance with validation requirements Requires prioritization Much more time and resource consuming than the typical model change validation activities Advantages of centralized resources to assist with baselining: o o o o Independence Dedicated and scalable resources Knowledge of typical and best practices Experienced in developing audit approaches Broader view model interaction across model owner groups o 9 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

10 Types of Deliverables for Validation Effort Overview of Models Including: Historical use Description of key risks (product, policyholder, market, operational, etc.) Description of methodology and assumptions Data flow and process maps, including data used and labeling of controls at various stages Report on Baselining Review: Justification for plan mapping and model compression (e.g., cell structure) Review of model inputs for product specifications and assumptions Application code review for intended purposes Appropriate use of reporting output Test sample illustrations Continued Monitoring: Model change documentation with reason, impacts, technical review, fit for purpose peer review, and approvals 10 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

11 Continuation of Validation Controls A formalized process for continuing validation controls after baselining Conduct in-line with model development lifecycle Examples: Separate testing environment for model changes Roll-forward analysis via a waterfall or ladder of results Maintenance of documentation suited to each model aspect Archive of current assumptions Model change documentation with levels of peer review and acceptance: o Development o Technical Review o Testing Documentation o Peer Review o Model owner/management sign-off Process is much easier to build upon the baseline deliverables 11 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

12 Best Practices Start with models subject to highest risk o Materiality vs. complexity Baselining of all inputs, formulas, and reports is more effective than ad hoc review on a narrower scope, which can be biased in terms of focus The baseline report should stand on its own without the need to access the models (include work papers where needed) Ensure independence during the review process, but obtain buy-in on findings from model owners Cover the gaps between: o Initial generation of administration data and assumptions and inputs to the model o Model outputs to final delivery of results to stakeholders 12 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

13 Typical Areas of Major Findings Misuse of data or results delivered between different areas of the company Key risks ignored or insufficiently modeled o o Non-modeled business or features Lack of economic rate variation Unexpectedly material simplifications Model assumptions or approaches applied outside of actuarial guidelines or recommended practices Legacy practices or calculations invalidated by new events Errors in back-end processes used in support of the primary projection model 13 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

14 General Assumption/Margin Development Prudent estimate assumptions = anticipated experience + margin Company experience o Relevant o Credible Industry experience, with adjustments as needed Sensitivity testing Annual review 14 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

15 Expenses and Taxes Expenses o Valuation Manual guidance o Company/industry experience o Inflation Taxes o Premium tax o Income taxes 15 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

16 Expense Assumptions: VM Guidance IT costs/other capital expenditures o VM-20 Section 9.E.1.b: May spread certain information technology development costs and other capital expenditures over a reasonable number of years in accordance with accepted SAP... Expense basis o VM-20 Section 9.E.1.d: Shall choose an appropriate expense basis that properly aligns with actual expense (for example death benefits expenses modeled per death) 16 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

17 Expense Assumptions: VM Guidance Allocation o VM-20 Section 9.E.1.i: Use fully allocated expenses (direct costs associated with block plus allocated indirect and overhead costs per 9.E.1.l) o VM-20 Section 9.E.1.j:... Allocation method consistent across company lines of business consistent with ASOPs 17 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

18 Expense Assumptions: VM Guidance New Business o VM-20 Section 9.E.1.n: For policies sold under a new policy form... use expense factors that are consistent with expense factors... from an existing block of mature policies...) 18 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

19 Expense Assumptions: Company Experience Typically based on unit cost studies produced by the company frequently these support AAT expense assumptions Use industry data (such as SOA studies or GRET) if company experience lacking or outdated Use fully allocated expenses per VM guidance 19 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

20 Expense Assumptions: Inflation Typically based on historical national inflation data such as: o Consumer Price Index (CPI) o GDP deflator o Central bank inflation forecasts Use historical average, consider a select and ultimate approach Increase rate for margin 20 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

21 Tax Assumptions Premium tax o Typically, the state premium tax rate applicable to the product (i.e., averages around 2% for life insurance) Income taxes o Per 9.E.1.n.g, shall NOT include assumptions for federal and foreign income taxes (reserve calculations are pre-tax) 21 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

22 Term Life Assumptions Lapse rates o Level period o Shock o Post level period Conversions Post level period profits 22 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

23 Term Life Assumptions: VM Guidance Lapse rates o VM-20 Section 9.D.3.b: The company must assume that policyholders efficiency will increase over time unless the company has relevant and credible experience or clear evidence to the contrary. 23 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

24 Term Life Assumptions: VM Guidance Conversions o VM-20 Section 9.D.1.e: Reflect the likelihood that policyholder behavior will be affected by any significant increase in the value of a product option, such as term conversion privileges or policy loans. 24 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

25 Term Life Assumptions: VM Guidance Post-level period profits o VM-20 Section 9.D.6: For the calculation of the deterministic reserve, for a term life policy issued 1/1/2017 and later that guarantees level or near level premiums for more than five years until a specified duration followed by a material premium increase, or for a policy for which level or near level premiums are expected for more than five years, followed by a material premium increase, for the period following that premium increase the cash inflows or outflows shall be adjusted such that the present value of cash inflows does not exceed the present value of cash outflows. 25 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

26 ULSG Liability Cash Flow Assumptions Company assumptions: o Expenses o Credited rate strategy o Other NGE 26 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

27 ULSG Assumptions Policyholder behavior: o Premium patterns and persistency o Partial (or full) withdrawals/surrenders o Other benefit utilizations o Lapse (if secondary guarantee not in force) 27 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

28 ULSG Assumptions Required Sensitivity tests: (Section 9.D.4) i. Minimum premium scenario ii. No further premium scenario iii. Pre-payment of premiums as single premium scenarios iv. Pre-payment of premiums as level premium scenarios 28 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

29 ULSG Assumptions Considerations: o Section 9.D.1.a. is specifically directed at policyholder behavior assumptions, and indicates consideration of expectations regarding variations in anticipated policyholder behavior relative to characteristics that have a material impact on the minimum reserve. o Section 9.D.1.e. Reflect the likelihood that policyholder behavior will be affected by any significant increase in the value of a product option. 29 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

30 ULSG Assumptions Review model granularity needs Validation of total terminations Incorporation of prescribed industry lapse rates from the 2007 CIA study Approaches to setting margins 30 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016

31 Additional Liability Assumption Overview Questions Break-outs 31 PBR Boot Camp: Basic Training and Beyond for PBR Implementation September 21-23, 2016