Sustainable Life Insurance: Managing Risk Appetite for Insurance Savings and Retirement Products

Cover
Half Title
Series Information
Title Page
Copyright Page
Author Bios
Table of Contents
Introduction
Chapter 1 The Transformation of the Risk Appetite for Sustainable Savings and Retirement Policies
1.1 The Transformation of the Insurance Business Over the Past Decade
1.1.1 Medium- to Long-Term Shifts in Customers’ Longevity, Risk Appetites and Behaviours Create Opportunities and Challenges for Insurers, While Decreasing Tax Benefit Calls for Innovations
1.1.1.1 The Demographic Dividend Within Ageing Societies
1.1.1.2 Customers’ Risk Appetite and Behaviours Have Become More “Efficient” With Respect to Increasingly Defined Needs and Rising Costs Versus Reduced State Expenditures On Pensions
1.1.1.3 Sustainability Offers a Historic Opportunity to Lead, Innovate and Grow Purposefully
1.1.2 Key Lessons From the 2008 Financial Crisis and the Persistently Low Interest Rates Environment Regarding Sustainability
1.1.2.1 The 2008 Financial Crisis Was a Stress Test
1.1.2.2 High Market Uncertainties and Persistently Low Interest Rates Have Had a Drastically Negative Impact On the Sustainability of Savings and Retirement Products
1.1.3 In-Force Management Opportunities and Challenges: a Strategic Asset for Sustainable Savings and Retirement
1.1.3.1 Assess and Prioritize Opportunities for Earnings, Value and Capital Enhancements
1.1.3.2 Better Understand Customers’ Retention Drivers and Tailor Interactions to Improve Portfolio Profitability
1.1.3.3 Manage In-Force Assets to Enhance Their Resilience to Lower Interest Rates and Yields
1.1.3.4 Manage In-Force Portfolio Liabilities to Enhance the Runoff Value
1.2 Securing Long-Term Sustainable Business Growth: From Governance to Effective Risk Management
1.2.1 Risk Is Embedded Within the Insurer’s Business Model
1.2.2 From Risk as a Constraint to a Culture: Risk Management as Sustainable Business Partner and Risk Factor Control
1.2.3 From Prudential Regulation Frameworks to Effective Sustainable Insurance Risk Management
1.2.3.1 Why Do We Need Regulation?
1.2.3.2 The Structure of Capital Requirement Prudential Regulation: Focus On the European Solvency II Framework
1.2.3.3 From Regulation Concept to Sustainable Corporate Risk Management Practices: Enterprise Risk Management (ERM)
1.2.4 Effective Sustainable Insurance Risk Management Implementation
1.2.4.1 Sustainable Operational Risk Management
1.2.4.2 The Product Approval Process for Sustainable Savings and Retirement
1.2.4.3 The Risk Appetite Framework for Sustainable Savings and Retirement
Chapter 2 Product Risk Appetite for Sustainable Savings and Retirement
2.1 The Increasingly Selective Customer Risk Appetite Across the Four Axes: Yields/Flexibility/Financial Guarantees/Cost
2.1.1 Case Study: US Life Insurance Market, Where Customer Risk Appetite Switched Between Variations of Universal Life Depending On Relative Trends of Equities Versus Interest Rates
2.1.1.1 The Fast-Growing Customer Risk Appetite for Universal Life in the 1980s, in Line With the Sustained High Interest Rate Regime
2.1.1.2 The Switch in Customer Risk Appetite to Variable Life in the 1990s, in Line With Falling Interest Rates and the “Roaring Bull” Equities Market
2.1.1.3 The Growing Customer Risk Appetite for Fixed Indexed and Secondary Guarantee Universal Life in the 2000s, in Line With Higher Risk Aversion Versus Downside Risk
2.1.1.4 Strategies for Universal Life Products in the Current Market of Persistently Low Interest Rates
2.1.2 The Surge of Traditional Variable Annuities in the 2000s and Their Significant Decline Since 2015 With Persistently Low Interest Rates and Recurrent Financial Market Volatility
2.1.3 The Growing Customer Risk Appetite for Indexed Annuities (FIAs Or EIAs) During the 2010s, Providing Flexible and Cheaper Guarantees to Customers With Lower Risk Tolerance
2.1.3.1 Product Basics
2.1.3.2 Crediting Mechanism
2.1.3.3 Pricing: Focus On Equity-Indexed Annuities
2.1.3.4 Pricing and Profitability Issues
2.2 Meeting Both Shareholders’ and Policyholders’ Appetites Through Sustainable Capital-Light Products?
2.2.1 Evolving the Range of Sustainable Savings and Retirement Products Aligning Both Customers’ and Insurers’ Risk Appetites
2.2.1.1 An Increasingly Adverse Environment
2.2.1.2 Increasingly Efficient Customer Behaviour Is Required to Reshape Customer Journeys for an Enhanced Customer Experience
2.2.1.3 Evolving the Product Range of Sustainable Savings and Retirement Instruments, Aligning Both Customers’ and Insurers’ Risk Appetites, Through Cheap, Flexible, Performant and Capital-Light Financial Guarantees
2.2.1.4 Capital-Light CPPI Savings Products
2.2.1.5 Capital-Light, Flexible and Cheap Structured Variable Annuities (Registered Index-Linked Annuities: RILAs) in the United States
2.2.1.6 The Hybrid General Account With Embedded Structured Guarantees
2.2.2 Reducing Financial Risks and Capital Requirements Through Banking, Asset Management and Digital Partnerships
2.2.2.1 Leveraging On Digital Technologies Through Partnerships With Assurtechs: Illustration of the Data Governance Within IFRS 17
2.2.2.2 Combining the Skills of Insurance and Banking/Asset Management Within the Context of Drastic Changes in Financial Markets, Regulations and Policyholders’ Behaviour Patterns
2.2.2.3 Towards a New Type of Life Insurer?
Chapter 3 Measuring Risk Appetite for Sustainable Savings and Retirement
3.1 Considerations On Risk-Neutral Versus Real-World Pricing Frameworks
3.1.1 The Risk-Neutral Approach
3.1.2 The Real-World Approach
3.1.3 The Different Steps in Constructing an Economic Scenario Generator
3.2 Hybrid Financial Risk Modelling for Sustainable Savings and Retirement
3.2.1 Hybrid Financial Modelling for Sustainable Savings and Retirement Liabilities
3.2.1.1 Interest Rate Dynamics Modelling for Sustainable Savings and Retirement
3.2.1.2 Equity Hybrid Dynamics Modelling for Sustainable Savings and Retirement
3.2.1.3 Equity Market Crash Modelling for Sustainable Savings and Retirement
3.3 Customer Behaviour Risk Modelling for Sustainable Savings and Retirement
3.3.1 Traditional Experience Study Versus Predictive Modelling Approaches
3.3.2 From Backward-Looking to “Reasonable” Forward-Looking Predictive Modelling
3.3.3 Predictive Modelling Case Studies
3.3.3.1 Surrender Behaviour Predictive Modelling
3.3.3.2 Efficient Forward-Looking Customer-Centric Deferral Period Modelling
3.3.3.3 Efficient Forward-Looking Customer-Centric Predictive Withdrawal Modelling
3.4 Computational Challenges and Opportunities: Accelerating the Computational Run-Time By Speeding Up the Convergence of Monte Carlo Simulations
3.4.1 Randomized Quasi-Monte Carlo Scenario Generators
3.4.1.1 Context and Objectives
3.4.1.2 The Modelling Framework
3.4.1.3 Pricing Convergence Issues
3.4.1.4 Mitigating Solutions
3.4.1.5 Conclusion
3.4.2 GPU Technology
3.4.2.1 Hardware Information
3.4.3 Numerical Results
3.4.3.1 Black–Scholes By Closed-Form Formula
3.4.3.2 Black–Scholes By Quasi-Monte Carlo Simulations
3.4.3.3 Exotic Options By Quasi-Monte Carlo Simulations
Chapter 4 Designing Products Aligned With the Risk Appetite for Sustainable Savings and Retirement
4.1 Screening Sustainable Opportunities Balancing Shareholders’ Versus Customers’ Interests With Persistently Low Rates and Growing Regulatory Constraints
4.1.1 The Impact of a Prolonged Low Interest Rate Environment
4.1.1.1 Earnings Impacts
4.1.1.2 Value Impacts
4.1.1.3 Capital Impacts
4.1.1.4 Liquidity Impacts
4.1.2 Growing Regulatory Concerns and Constraints
4.1.2.1 … With Respect to Accounting and Capital Requirements
4.1.2.2 … With Respect to Consumer Protection
4.1.3 Renewing the Life Insurance Proposition
4.1.4 Screening Sustainable Opportunities Balancing Shareholders’ Versus Customers’ Risk Appetites
4.1.4.1 New Business and In-Force Capital-Based Metrics at Product Level
4.1.4.2 Introducing Customer Value Metrics for Consumer Protection
4.2 Sustainable Liability Design Enhancements
4.2.1 Improving the Solvency IRR Through Liability Designs: Focus On General Accounts Under Solvency II
4.2.1.1 Solvency II Versus Solvency I IRR
4.2.1.2 Solvency IRR Sensitivities to General Account Design Features
4.2.1.3 Improving the Solvency IRR Through Product Design
4.2.2 Mitigating Product Risks Through Liability Design: Focus On Policyholder Behaviour Risks
4.2.2.1 Mitigating Customers’ Behaviour Risks Embedded Within the Deferral Period
4.2.2.2 Reconciling Insurer and Customer Lapse Risk Appetites Through Fee Product Design
4.2.3 Enhancing the Customer Experience of Savings and Retirement Products Through Sustainable Customer-Centric Product Design
4.2.3.1 Enhancing the Sustainability of Indexed Annuities From the Customer’s Risk Appetite Perspective
4.2.3.2 Tailoring the Product Design to the Customer’s Needs, as Illustrated By an Increasingly Differentiated Savings Behaviour Pattern
4.2.4 Reconciling Insurer and Customer Risk Appetites Through Sustainable Capital-Light Products: Reducing Capital Requirements While Increasing the Upside Potential
4.3 Sustainable Investment Asset Designs
4.3.1 The Growing Competition of Private Equity Firms With Capital-Intensive Offloadings By Insurers
4.3.2 The Insurance Company Hunt for Yield Amid Tightening Regulations
4.3.3 Neither Active Nor Passive Asset Management Styles Seem to Have Significantly and Sustainably Managed Recurrent Choppy Markets During the Last Decade
4.3.3.1 These Four Challenges Have Significantly Penalized Active Management Over the Past Decade …
4.3.3.2 … In Favour of Passive Managed-Volatility Fund Strategies, Massively Used By the Insurance Industry Over the Past Decade
4.3.3.3 A Few Equity Volatility Spikes Combined With Increasingly Correlated Markets Have Made Most Passive Management Inefficient With the Emergence of a New Volatility Regime Pattern Since 2013
4.3.4 Sound Mixes Between Fundamentals and Technicals Improve Sustainability in Choppy Markets
4.3.4.1 Embedding Specific Fundamentals Within Systematic Algorithmic Passive Asset Management to Mitigate Part of Their Structural Weakness
4.3.4.2 Selecting Resilient Assets Supported Both By Fundamentals and By Systematic Market Technical Indicators
4.3.5 Sustainable Investment Strategy Enhancements
4.3.5.1 Reconciling Sustainability, Market Performance and Customers’ Risk Appetite Through an ESG Risk-Based Optimal Asset Allocation
4.3.5.2 Decreasing the Transaction Costs of Investment Strategies Through Sustainable Risk-Appetite-Based Optimal Asset Rebalancing Strategies
4.3.5.3 Decreasing the Cost of Capital Through Sustainable Asset Selection
Chapter 5 Hedging Risks Aligned With the Risk Appetite for Sustainable Savings and Retirement
5.1 Hedging Principles, Processes and P&L Attribution
5.1.1 Hedging Principles
5.1.1.1 Why Hedging? Illustration With a Financial Guarantee Embedded Within a Life Insurance Product
5.1.1.2 Some Historical Background About the Growing Hedging Needs
5.1.1.3 Hedging Mechanism Basics
5.1.1.4 Hedging and Risk Appetite Frameworks (Earnings, Value, Capital, Liquidity)
5.1.2 Hedging Processes
5.1.3 From P&L Attribution to Hedging Implementation
5.1.3.1 From Greeks to Hedging P&L Attribution
5.1.3.2 Interest Rate (Rho) Hedging
5.1.3.3 Delta Hedging
5.1.3.4 Vega Hedging
5.1.3.5 Hedging Strategy Implementation
5.1.4 Hedge Accounting and Tax Treatment: Focus On US Variable Annuities (GMxBs) Since the 2008 Crisis
5.2 From Dynamic Hedging to Semi-Static Hedging
5.2.1 Sustainable Directional Hedging
5.2.1.1 Interest Rate (Rho) Hedging
5.2.1.2 Equity Delta Hedging
5.2.1.3 Sustainable Delta-Hedging Rebalancing (E.g. for FIAs, Vas and EIAs)
5.2.2 Sustainable Volatility Hedging
5.2.2.1 Sustainable Convexity Hedging
5.2.2.2 Sustainable Vega Hedging
5.2.2.3 Sustainable Hedging of Equity–Interest Rate Correlation Risk
5.2.3 Sustainable Hedge Effectiveness Versus Cost
5.2.3.1 Trade-Off Between Sustainable Hedge Effectiveness and Hedge Cost
5.2.3.2 From Systematic to Tactical Hedging
5.2.3.3 Tail Risk Hedging
5.3 Managing Hedging Liquidity Constraints
5.3.1 Managing Market “Gap Risks” for Unit-Linked Hybrids (ICPPI/TIPPs)
5.3.1.1 CPPI Management: From Theory to Practice
5.3.1.2 Mitigating the Downside Risk By Preventing Breaching of the Floor (Gap Risk)
5.3.2 Minimizing the Market Impact of Hedging Life Insurance Liabilities Within Risk Appetite
5.3.2.1 Market Impact as a Growing Issue
5.3.2.2 Dynamic Risk Management Reduces the Cost to the Insurer and the Price to the Insured By Minimizing the Market Impact With Respect to the Insurer’s Risk Aversion
Bibliography
Index