Session 39 PD, Non-Variable Annuity PBR Update Moderator...

Session 39 PD, Non-Variable Annuity PBR Update

Moderator: James W. Lamson, FSA, MAAA

Presenters:

Corinne R. Jacobson, FSA, MAAA James W. Lamson, FSA, MAAA Michael C. Ward, FSA, MAAA

PD 39: Non-Variable Annuity PBR UpdateJim Lamson, FSA, MAAA – Actuarial Resources Corporation

Corinne Jacobson, FSA, MAAA – Midland National Life Mike Ward, FSA, MAAA – Life of the Southwest

Order of Presentations• Corinne:

– Overall direction of Annuity Reserves Work Group (ARWG) of American Academy of Actuaries

– Products in Scope & Overall Framework• Mike:

– Key Risk Drivers & Representative Scenarios– Modeled Reserve & Aggregate Reserve Margin

• Jim:– Floor Reserve Definition and Components & Listed Benefits– Calculation of Reserve for GLIBs & Utilization Rates

August 25, 2014 PD 39 - Non-Variable Annuity PBR Update - Valuation Actuary Symposium 2

PD 39: Non-Variable Annuity PBR UpdateCorinne Jacobson, FSA, MAAA

Midland National Life

ARWG Direction• ARWG presented report at LATF’s March 1, 2012 meeting• Very last paragraph of ARWG report stated

Finally, the ARWG wishes to point out that all of the issues identified in this document are best addressed by a principle-based approach to the valuation of non-variable

annuities… In achieving that end, the ARWG restates its willingness to assist LATF in its

efforts to move expeditiously toward such a valuation approach.

• LATF accepted ARWG’s offer

August 25, 2014 4PD 39 - Non-Variable Annuity PBR Update - Valuation Actuary Symposium

ARWG Direction• May 1, 2013: Direction Decided for VM-22

– Not simply an annuity version of VM-20; don’t simply expand scope of VM-21 (a.k.a., VACARVM, AG43)

– Retain concept of a deterministic reserve (based on a set of prescribed assumptions) and another “modeled” reserve based on current assumptions

– New paradigm for the Modeled Reserve– KS State Insurance Dept volunteered to conduct field test


Products within VM-22 Scope

Non-variable individual and group annuities Deferred annuities Payout annuities Deposit fund products


Products within VM-22 Scope Payout Annuities Longevity Insurance Structured Settlement Annuities Traditional Deferred Annuities Two-tiered Annuities Market Value Adjusted Annuities Equity Indexed Annuities Bond Indexed Annuities Modified Guaranteed Annuities “CD” Annuities Gen Acct Bond Allocated Annuities

Multi-bucket Annuities Directed Annuities Charitable Annuities Interest Indexed Annuities GICs Synthetic GICs Funding Agreements Terminated Pension Plan Annuities Qualified Plans (e.g., 401(k)) Life & Annuity Combinations &

Annuity Riders


Working Definition of Minimum Reserve

Equals the Nonforfeiture Value (NFV) and the sum of:A. The excess, if any, of the Floor Reserve over the

NFV; andB. The excess, if any, of the Modeled Reserve over the

excess, if any, of the Floor Reserve over the NFV


Working Definition of Minimum Reserve

In other words, Minimum Reserve = max {NFV, FR, MR} where

FR = Floor Reserve

MR = Modeled Reserve


Goals of VM-22: General

Right-size reservesRecognize current and future product featuresIncrease auditability of reservesProduce meaningful results that can be used by

Management


Goals of VM-22: Floor Reserve

Design the Floor Reserve such thatin most cases, it is less than current CARVMit serves as the Tax Reserve it is conservative but does not overshadow the Modeled

Reserve


Goals of VM-22: Modeled Reserve

Run limited number of scenariosTest more risks than just interest rate and equity risksAdd conservatism on an aggregate basis, rather than

including individual margins on each assumption


PD 39: Non-Variable Annuity PBR UpdateMichael Ward, MAAA, FSA

Life Insurance Company of the Southwesta Member of The National Life Group

The Modeled Reserve• Reprise: Where does the Modeled Reserve Fit?


polpols

Minimum = NFV + A + B, whereReserve

polpolpols pols

0A = max Floor - NFVReserve

polpols

0B = max

- NFV + AModeled Reserve

Representative Scenarios Method

Description of the Approach:• Generalized, Multi-Risk• Model separated into Model Segments

Blocks of business with similar risk profiles for both liabilities & assets

• Each Model Segment Reflects its Key Risk Drivers• Modeled Reserve ≈ Reserve as if all KRDs were modeled stochastically• But more practical to calculate & easier to audit


Reserve Paradigm

Modeled Reserve =

• Current Estimate Reserve+

• Aggregate Reserve Margin


The Actuary Must Be Professional

Expertise & Professionalism of the Actuary is Crucial in• Identification of the KRDs for each Model Segment• Quantification of Current Estimate Assumptions Estimated Probability Distribution Points for the KRDs


Current Estimate ReserveSeven Steps to determining the Current Estimate Reserve1. Identify Model Segments2. Identify Current Estimate Assumptions3. Identify KRDs4. Generate 5 Representative Scenarios for each Model Segment:

Anticipated; +/-1 std. dev.; +/-3 std. dev.5. Determine cash flows for each scenario for each Model Segment

Central estimate is weighted average by scenario probabilities

6. Aggregate the Scenario Reserves using KRD probabilities Weighted by the range of scenarios within that KRD

7. Aggregate the KRD reservesAugust 25, 2014 PD 39 - Non-Variable Annuity PBR Update - Valuation Actuary Symposium 18

Aggregate Reserve Margin


ARM uses Cost of Capital Approach1. Determine KRD Total Capital Amt for each Key Risk, Model Segment, year

For each KRD, the excess of the greatest scenario reserve over the central estimate Add capital across all risk drivers using RBC-style square root formula to reflect non-

correlation

2. Identify Spread Over Treasuries = CoC – risk-free rate3. Identify FIT factor, i.e., 35%4. COC factor:

5. ARM for a Model Segment = Sum of (PV for each year’s TCA) x CoCF6. ARM = Sum over all Model Segments of ARM for those Model Segments

SOTCoCf = 6% now1 - FITf

Test of Adequacy of Aggregate Margin


Test of adequacy of the Aggregate Margin requiredActuary shall:a. Identify the higher Scenario Reserve for the 1-Std Dev Scenario for

each KRDb. Calculate the excess of Current Estimate Reserve over a.c. Calculate the Alternative Modeled Reserve =

CER + b. less Covariance Adjustmentd. If AMR > 1.02 x (CER + AMR), then Modeled Reserve = AMRe. Else, Modeled Reserve = (CER + AMR)

Material Risks not Modeled


If the Actuary cannot reflect a material risk properly, then the Actuary shall make the following adjustments:a. Estimate the financial impact of the omitted risk; adjust the CER to

reflect the impactb. Determine the degree of uncertainty in the estimate in a.; adjust the

ARM for the uncertaintyc. Modeled Reserve recalculated to reflect adjustments in a. & b.

PD 39: Non-Variable Annuity PBR UpdateJim Lamson, FSA, MAAA – Actuarial Resources Corporation

Agenda• Purpose of the Floor Reserve• Reserve Components: FR1 and FR2

• Listed Benefits • Calculation Details of FR2

• Effect of In-The-Moneyness on Assumed GLIB Utilization• Impact of Joint GLIB Withdrawal Options• Joint vs. Single Life Contract Ownership


Kansas Field Test &Coordination with PD 60

• Kansas Insurance Department is funding a practical test (“Field Test”) of proposals outlined in this PD 39 presentation

• ARWG has worked closely with Field Test team• This session provides basic update of ARWG

developments and progress towards drafting of VM-22• PD 60 provides more details of methods and progress

and initial Field Test results – Tuesday at 10:00• Overlap between sessions intended to be minimalAugust 25, 2014 PD 39 - Non-Variable Annuity PBR Update - Valuation Actuary Symposium 24

Purposes of Floor Reserve• Minimum Reserve• Serve as possible model for computation of the Tax Reserve

– Preferable to avoid proliferation of reserve types (i.e. not 3 reserves as under VM-20)

– Calculation assumptions for tax reserves locked in at issue• Yardstick for measuring effectiveness of the Modeled

Reserve• Does not need to be adequate by itself


Purposes of Floor Reserve• Does not need to reflect product design features to same

extent as Modeled Reserve• Will reflect changes in mortality and Listed Benefit

utilization assumptions post-issue– That is, not locked in at issue – LATF and the NAIC could

decide to change– Tax Reserve uses assumptions frozen at issue

• ARWG will likely suggest modifications as necessary to prevent Floor Reserve dominance over Modeled Reserve


Intended Relationship to Modeled Reserve and Nonforfeiture Value

• Never less than the Nonforfeiture Value (seriatim comparison)

• Widespread belief that Modeled Reserve likely to be more appropriate than Floor Reserve

• Thus, adjustments to be made to Floor Reserve to prevent dominance over Modeled Reserve if possible– Field Test helping to identify need for this


Floor Reserve Utilizes Concept of Listed Benefits

• Essential features of a Listed Benefit– Policyholder option to elect benefit over a number of years– Size of the benefit dependent on some value other than the Account

Value– Listed Benefits to be listed in VM-22 (maintained by the NAIC)

• Utilization rates for Listed Benefits needed to properly value the contract

• Currently, the only Listed Benefits are– Guaranteed Lifetime Income Benefits and – Annuitization Tier in a Two-Tiered Annuity


Components of Floor Reserve• Floor Reserve = max {Nonforfeiture Value, FR1, FR2}

– FR1 is currently designed as CARVM reserve ignoring Listed Benefits

– FR2 is reserve for Listed Benefits• Net Result is that Floor Reserve would be:

– Current CARVM for products without Listed Benefits• Takeaway is that PBR could only result in reserve increase for products

w/o Listed Benefits– Less than current CARVM for products with Listed Benefits


FR1 Reserve Component• FR1 is the CARVM reserve ignoring all Listed Benefits

– Greatest Present Value– “Issue Year & Plan Type” valuation interest rates

• Computed assuming any charges and benefits for Listed Benefits cease on the valuation date

• Projected “non-Listed” benefits (e.g. cash values) are thus higher than otherwise


FR2 Component • Only applies to products with Listed Benefits• Reserve for all “n” Listed Benefits: where

– Each corresponding to Listed Benefit “i” is the FR2 reserve computed by ignoring all other Listed Benefits

– Assumes the Listed Benefit is the only elective benefit & will eventually be elected unless death or other non-elective benefit occurs first

– Computed using issue year Plan Type A rates with guarantee duration measured from issue date to benefit election date

2 21

max { }n

i

iFR FR


FR2 (continued)• Contrasts with CARVM’s GPV – injects expected

utilization instead of considering all possible Integrated Benefit Streams– Computed as the PV of a single Integrated Benefit Stream of

Listed Benefits– Provides easy “proof” for tax reserve being ≯AG 33 as FR2 is

one of AG33’s currently computed Integrated Benefit Streams


Basic Smoothed Utilization Rates for GLIBs & Two-Tiered Annuities

• Rates shown are percent of remaining lives• Separate rates for Qualified and Non-Qualified Business

– Due to Required Minimum Distributions

Attained Age Rate Attained

Age Rate Attained Age Rate Attained

Age Rate Attained Age Rate Attained

Age Rate

0-58 0.0% 65 27.5% 0-58 0.0% 65 17.5% 72 5.0% 79 23.8%59 5.0% 66 16.3% 59 3.8% 66 11.3% 73 5.0% 80 42.5%60 15.0% 67 5.0% 60 12.5% 67 5.0% 74 18.8% 81 23.8%61 10.0% 68 5.0% 61 8.8% 68 5.0% 75 32.5% 82 5.0%62 5.0% 69 5.0% 62 5.0% 69 13.8% 76 18.8% 83 5.0%63 5.0% 70 5.0% 63 5.0% 70 22.5% 77 5.0% 84 5.0%64 16.3% 71+ 100.0% 64 11.3% 71 13.8% 78 5.0% 85+ 100.0%

Non-QualifiedTax-Qualified


FR2 Present Value of GLIB Benefit Stream: Joint vs. Single Life Withdrawals

• Considers the value of joint vs. single life GLIB withdrawal guarantees

• Guaranteed withdrawal rates (i.e. payout rates) in contract generally grouped by attained age and stated separately for single life / joint lives

• Rates in current products often not actuarially equivalent, generally making the joint guaranteed withdrawal a better “deal”


Reserve Treatment Depends on Status of Policy Ownership

• If single life ownership, use single life mortality during deferred phase

• If joint ownership, last-to-die mortality during deferred phase– Actual second annuitant’s age and gender used if available– Otherwise assume opposite gender with male 2 years older than female

• Test if PV of joint withdrawal stream > PV of single withdrawal stream– Joint withdrawal stream may be ignored if joint life substantially

actuarially equivalent to single life. Otherwise blend them using a prescribed table.


Placeholder Slide for Post-LATF Meeting Update

• Summer LATF Meeting will be August 14-15, 2014• Slides will be added to this presentation as necessary to

provide an update from the meeting


Questions

Session 39 PD, Non-Variable Annuity PBR Update Moderator...

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