CIA Annual Meeting Assemblée annuelle de l’ICA
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Transcript of CIA Annual Meeting Assemblée annuelle de l’ICA
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CIA Annual MeetingAssemblée annuelle de l’ICA
June 29 & 30, 2006 Ÿ Les 29 et 30 juin 2006Ottawa, Ontario
Session Val-5 CLIFR Part II
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Term of the Liability
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
• Standards 2320.16 through .27
• Highlights:
– 2320.16 => if element of policy operates independently of the policy, it has its own term
– 2320.18 defines “renewal”, “adjustment” and “constraint”
– 2320.19 => may take account of one or more renewals / adjustments after B/S date
– 2320.20 => extend term with caution
Session Val-5 CLIFR Part II
SOP Summary
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
• Highlights:
– 2320.22 => term ends at the earlier of:• First renewal or adjustment date at or after B/S date at which
there is no constraint
• Renewal / adjustment date after the B/S date which maximizes policy liabilities
– 2320.23 => term extension to offset acquisition or similar expenses
– 2320.24 => write-down of AAE and recoverability testing
Session Val-5 CLIFR Part II
SOP Summary (cont’d)
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
• The phrase “maximizes policy liabilities” suggests the term reduces to zero if liabilities would otherwise be negative.
– Assuming product is continually renewable and no AAE
• Corollary to this is the liability for the guarantees has a floor of zero
• But at what level of aggregation?
Session Val-5 CLIFR Part II
What to Conclude
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Term of the Liability – Practical Challenges
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Challenge 1 – Hedging
• Segregated funds have significant insurance risk and are often hedged
• Hedging is managed on a portfolio basis– Trading in options is costly
• Zero floor can disrupt parity between asset and liability sides of the balance sheet (see examples)
– For simplicity, assume no AAE!
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Hedging Example
• Product
– 10-year 100% return-of-premium maturity guarantee
– No death benefit guarantees
– No resets
– Total MER = 200 bps
– Fund expenses = 135 bps
– Fund mapped 100% to S&P 500
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Hedging Example
• Hedging details
– Put options purchased on S&P 500
– Structured to match the guarantee payable on the maturity date
– Valued using Black-Scholes calibrated to current market prices
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Hedging Example• Valuation method & assumptions
– S&P 500 projected under 1,000 calibrated scenarios
– Account values and cashflows projected off the S&P 500 up to contract maturity date
• Fees less expenses• Guarantee costs less put option payoffs (net to ~ 0)
– Discounted at 5%, no lapses or deaths for simplicity
– CTE 80
• Reserve from this method is equivalent to PV expenses – PV fees at 5% / CTE 80 + cost of guarantee (=MV of puts)
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Hedging Example – Liability Data
Cohort Issue Date S&P 500 @IssDt
Deposit
1 Jul-1-2001 1,224.38 10,000
2 Jul-1-2002 968.65 10,000
3 Jul-1-2003 982.32 10,000
4 Jul-1-2004 1,128.94 10,000
5 Jul-1-2005 1,194.44 10,000
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Hedging Example – S&P 500
t Calendar Date Assumed S&P 500
Steady Rise Rise & Fall
0 2006-Jun-30 1250 1250
1 2007-Jun-30 1400 1500
2 2008-Jun-30 1500 1700
3 2009-Jun-30 1675 1850
4 2010-Jun-30 1800 1600
5 2011-Jun-30 1950 1500
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 9,232 5 (234) 1,640 1,406
2 11,963 6 (352) 892 540
3 12,033 7 (410) 943 533
4 10,655 8 (414) 1,303 890
5 10,265 9 (447) 1,430 983
Liability Asset = MV Puts
Cohort/Seriatim Floor 4,352
6,208Aggregate Floor 4,352
No Floor 4,352
Balance Sheet Summary
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Steady Rise Scenario – At June 30, 2006 (t=0 / S&P=1250)
Session Val-5 CLIFR Part II
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Cohort
AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
1 10,156 4 (208) 1,144
2 13,159 5 (324) 545
3 13,237 6 (388) 617
4 11,721 7 (399) 956
5 11,292 8 (438) 1,098
Liability Asset = MV Puts
Cohort/Seriatim Floor 2,602
4,359Aggregate Floor 2,602
No Floor 2,602
Balance Sheet Summary
Steady Rise Scenario – At June 30, 2007 (t=1 / S&P=1400)
Session Val-5 CLIFR Part II
Liability Before Floor
935
221
229
556
660
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
1 10,679 3 (168) 853
2 13,836 4 (276) 358
3 13,918 5 (342) 442
4 12,324 6 (362) 770
5 11,873 7 (404) 925
Liability Asset = MV Puts
Cohort/Seriatim Floor 1,795
3,348Aggregate Floor 1,795
No Floor 1,795
Balance Sheet Summary
Steady Rise Scenario – At June 30, 2008 (t=2 / S&P=1500)
Session Val-5 CLIFR Part II
Liability Before Floor
686
82
99
407
520
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
1 11,712 2 (124) 418
2 15,174 3 (228) 146
3 15,263 4 (302) 224
4 13,516 5 (333) 494
5 13,020 6 (382) 650
Liability Asset = MV Puts
Cohort/Seriatim Floor 723
1,932Aggregate Floor 563
No Floor 563
Balance Sheet Summary
Steady Rise Scenario – At June 30, 2009 (t=3 / S&P=1675)
Session Val-5 CLIFR Part II
Liability Before Floor
294
(82)
(78)
161
268
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Steady Rise Scenario – At June 30, 2010 (t=4 / S&P=1800)
Cohort AV Yrs to Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 12,352 1 (66) 120 55
2 16,003 2 (163) 40 (122)
3 16,097 3 (241) 100 (142)
4 14,254 4 (284) 313 29
5 13,732 5 (338) 465 127
Liability Asset = MV Puts
Cohort/Seriatim Floor 211
1,038Aggregate Floor 0
No Floor (52)
Balance Sheet Summary
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Steady Rise Scenario – At June 30, 2011 (t=5 / S&P=1950)
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 13,134 0 0 0 0
2 17,016 1 (94) 1 (93)
3 17,116 2 (180) 21 (159)
4 15,157 3 (234) 147 (87)
5 14,601 4 (296) 279 (17)
Liability Asset = MV Puts
Cohort/Seriatim Floor 0
448Aggregate Floor 0
No Floor (356)
Balance Sheet Summary
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Steady Rise Scenario – 5 Year Summaryt Fees –
ExpLiability Asset =
MV Puts
Income
Seriatim Aggregate No Floor Seriatim Aggregate No Floor
0 4,352 4,352 4,352 6,208
1 370 2,602 2,602 2,602 4,359 271 271 271
2 397 1,795 1,795 1,795 3,348 192 192 192
3 427 723 563 563 1,932 83 243 243
4 459 211 0 (52) 1,038 76 128 180
5 486 0 0 (356) 448 107 (104) 199Income Summary
(150)
(100)
(50)
-
50
100
150
200
250
300
1 2 3 4 5
Year
Inco
me
-
500
1,000
1,500
2,000
2,500
S&
P 5
00
No Floor Aggregate Seriatim SP500
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 9,232 5 (234) 1,640 1,406
2 11,963 6 (352) 892 540
3 12,033 7 (410) 943 533
4 10,655 8 (414) 1,303 890
5 10,265 9 (447) 1,430 983
Liability Asset = MV Puts
Cohort/Seriatim Floor 4,352
6,208Aggregate Floor 4,352
No Floor 4,352
Balance Sheet Summary
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Rise & Fall Scenario – At June 30, 2006 (t=0 / S&P=1250)
Session Val-5 CLIFR Part II
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 10,897 4 (226) 914 688
2 14,118 5 (353) 418 65
3 14,200 6 (420) 488 67
4 12,575 7 (433) 793 361
5 12,114 8 (474) 932 458
Liability Asset = MV Puts
Cohort/Seriatim Floor 1,639
3,545Aggregate Floor 1,639
No Floor 1,639
Balance Sheet Summary
Rise & Fall Scenario – At June 30, 2007 (t=1 / S&P=1500)
Session Val-5 CLIFR Part II
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 12,133 3 (191) 495 304
2 15,718 4 (317) 193 (124)
3 15,810 5 (393) 261 (132)
4 14,000 6 (415) 512 98
5 13,487 7 (463) 650 187
Liability Asset = MV Puts
Cohort/Seriatim Floor 589
2,111Aggregate Floor 332
No Floor 332
Balance Sheet Summary
Rise & Fall Scenario – At June 30, 2008 (t=2 / S&P=1700)
Session Val-5 CLIFR Part II
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 12,961 2 (139) 220 81
2 16,790 3 (258) 75 (184)
3 16,889 4 (340) 131 (209)
4 14,955 5 (373) 331 (42)
5 14,407 6 (426) 464 38
Liability Asset = MV Puts
Cohort/Seriatim Floor 118
1,220Aggregate Floor 0
No Floor (317)
Balance Sheet Summary
Rise & Fall Scenario – At June 30, 2009 (t=3 / S&P=1850)
Session Val-5 CLIFR Part II
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Rise & Fall Scenario – At June 30, 2010 (t=4 / S&P=1600)
Cohort AV Yrs to Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 10,954 1 (65) 363 298
2 14,193 2 (151) 113 (38)
3 14,277 3 (221) 211 (10)
4 12,642 4 (259) 528 269
5 12,179 5 (307) 714 407
Liability Asset = MV Puts
Cohort/Seriatim Floor 973
1,929Aggregate Floor 925
No Floor 925
Balance Sheet Summary
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Rise & Fall Scenario – At June 30, 2011 (t=5 / S&P=1500)
Cohort AV Yrs to
Mat
PV Expenses less Fees
Guarantee Cost = MV Puts
Liability Before Floor
1 10,051 0 0 0 0
2 13,024 1 (74) 67 (7)
3 13,101 2 (141) 204 63
4 11,600 3 (184) 607 423
5 11,175 4 (231) 839 607
Liability Asset = MV Puts
Cohort/Seriatim Floor 1,093
1,717Aggregate Floor 1,086
No Floor 1,086
Balance Sheet Summary
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Rise & Fall Scenario – 5 Year Summaryt Fees –
ExpLiability Asset =
MV Puts
Income
Seriatim Aggregate No Floor Seriatim Aggregate No Floor
0 4,352 4,352 4,352 6,208
1 384 1,639 1,639 1,639 3,545 433 433 433
2 439 589 332 332 2,111 55 312 312
3 478 118 0 (317) 1,220 58 (80) 236
4 456 973 925 925 1,929 310 240 (77)
5 400 1,093 1,086 1,086 1,717 68 27 27Income Summary
(200)
(100)
-
100
200
300
400
500
1 2 3 4 5
Year
Inco
me
-
200
400600
800
1,000
1,200
1,4001,600
1,800
2,000
S&
P 5
00
No Floor Aggregate Seriatim SP500
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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• How to apply zero floor at a finer level of aggregation than hedging portfolio?
– Options aren’t allocated to cohorts in practice
• Value of options added to reserve “drops off” when total reserve becomes negative
– Since term becomes zero
• Is the balance sheet position appropriate?
• How do you explain earnings when zero floor kicks in, given change in the stock market?
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
Observations
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Challenge 2 – Cashflow Asymmetry
• Claims from segregated fund guarantees can come in waves
– Depends on when sold and where market was at that time
– Also depends on product design
– Magnified if sales pattern is “chunky”
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Example
• Two cohorts– Cohort 1 sold in 1999 (S&P 500 = 1,455)
– Cohort 2 sold in 2002 (S&P 500 = 975)
• Current S&P 500 = 1,250– Cohort 1 is deep in the money with 1 year left to
maturity – Cohort 2 is deep out of the money with 4 years left to
maturity
• What should the total liability be?
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Example (cont’d)
• Cohort 1 will likely pay out significant claims next year (assume no hedging)Assume claims are imminent at 1,000 (reserve = 1,000)How does total liability account for this?
• What impact does zero floor have here?
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Session Val-5 CLIFR Part II
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• Scenario 1: Cohort 2 liability deeply negative before zero floor– Cohort 1 liability = 1,000– Cohort 2 liability = -1,200
• Scenario 2: Cohort 2 liability slightly negative before zero floor– Cohort 1 liability = 1,000– Cohort 2 liability = -300
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
Cohort/Seriatim Aggregate No Floor
Scenario 1 0 -1,000 0
Scenario 2 0 -300 0
Income (after claim payment)
Example (cont’d)
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• Here the issue is more significant if you don’t hedge
• Is the balance sheet position appropriate?
– With seriatim floor?
– With aggregate floor?
– No floor?
• One option is to choose the term on an aggregate level by choosing the term that maximizes liability (may involve renewing cohort 1)
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
Observations
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Recoverability Testing for AAE
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Session Val-5 CLIFR Part II
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• Use MfADded assumptions
• Direction chosen appropriate in aggregate– High lapse favours guarantee– Low lapse favours AAE
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
Non-Economic Assumptions
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
CTE 0 •Accounting view?
•Compare with similar accounting items subject to impairment testing
CTE 60 •Actuarial view?
•Divorces considerations for AAE recoverability from those for guarantees
CTE X •Aligns considerations for AAE recoverability from those for guarantees
•Whole contract view?
Session Val-5 CLIFR Part II
Choice of CTE Level
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CTE 80 •In range of SOP
•Awkward (?) if CTE level for guarantees is lower than 80
CTE 95 •Solvency-oriented
Ed note will endorse two methods:– CTE 60– CTE X
Session Val-5 CLIFR Part II
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Choice of CTE Level (cont’d)
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
• Term of the liability reads literally as a seriatim concept
• However, common/accepted practice thought to be at portfolio-wide level– Banks, mutual funds
– Consistent with US GAAP and International GAAP
• No recognition of cash flows for a policy beyond its term of the liability, but deficiencies can offset excesses (see example)
Session Val-5 CLIFR Part II
Level of Aggregation
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Level of Aggregation – Example
Policy A Policy B
Remaining AAE 100 100
Term of liability 3 5
PV of cashflows over 3 years 90 105
PV of cashflows over 5 years 100 115
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Session Val-5 CLIFR Part II
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Level of Aggregation – Example (cont’d)
• Acceptable practice:
– Aggregate across policies A and B
– Total AAE = 200
– Total PV cashflow (TOL) = 205 (90+115)
Test is satisfied
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Session Val-5 CLIFR Part II
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Level of Aggregation – Revised Example
Policy A Policy B original
Policy B revised
Remaining AAE 100 100 100
Term of liability 3 5 5
PV of cashflows over 3 years 90 105 95
PV of cashflows over 5 years 100 115 105
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Level of Aggregation – Revised Example (cont’d)
• Same level of aggregation yields:
– Total AAE = 200
– Total PV cashflow (over TOL) = 195 (90+105)
Test is not satisfied
• It is not acceptable to extend Policy A to 5 years to satisfy the test as follows:
– Total AAE = 200
– Total PV cashflow (over 5 yrs) = 205 (100+105)
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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Policyholder Behaviour
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
• Policyholder behaviour an important assumption for segregated funds:– Full and Partial Withdrawal – Resets– Fund transfers– Annuitizations if material
• Consider interrelationships, particularly reaction to the scenario– Must combine experience data with common sense /
intuition when modelling dynamic behaviour– Consider higher MfADs for these
Session Val-5 CLIFR Part II
Summary
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CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
• Option exercise correlated with in-moneyness
• Anti-selection
• Consider reasonable expectations
• PH sophistication & perceived financial interest in policy
• < 100% efficiency
Session Val-5 CLIFR Part II
Guiding Principles
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Questions?(or comments, criticisms, accusations, threats, or even accolades)
CIA Annual Meeting Ÿ Assemblée annuelle de l’ICA
Session Val-5 CLIFR Part II