How an Actuary establish the Investment Strategy for a company ?

-

The main aim of Actuary is to match assets with the liabilities. In case of insurance companies, actuary major role is to find the capital requirement. In a layman language, capital requirement means the amount that an insurance company has to set aside to ensure that they are able to meet the liabilities in the future with a given degree of confidence.

Therefore, the more risk company possess, more will be the capital requirement. Actuary try to reduce this risk by matching asset and liability.

Matching asset and liability: Let’ understand a simple example. Suppose you have to pay your friend Rs. 10,000 next year. So, today you can invest Rs.9500 in a Bank as a Fixed deposit that that can provide a return of 5.26% per annum. So you can use bank deposit money after one year that will be 10,000 to pay your friend 10,000. That’s how you match your liability outgo with your asset income and thus reduces the risk of being default. Same concept applies to insurance companies as well.

To establish an investment strategy, we have to consider a lot of points such as:

Characteristics of Liabilities:

·         If liabilities are real in nature, then we match with real assets such as equities, properties etc.

·         If liabilities are long term in nature (as in case of pension and life insurance), then we match with assets of long term nature i.e. long term bonds, equities etc.

Regulatory restrictions

·         Sometimes regulator describes which assets you cannot invest in or which assets should hold atleast minimum percentage in your portfolio. For ex,

o   Regulator can say that you cannot invest in derivatives as an insurance company because this asset class in too risky and there is a threat that you are not able to pay your liability to policyholders

o   Regulator can say that you have to invest atleast 35% of your portfolio assets into government bonds because these are risk free investment and it helps in reducing overall risk of the insurer and ultimately reduces the capital requirement.


Taxation: Different types of asset classes will have different taxes. For ex, investment in ELSS(Equity linked savings scheme) can help in getting tax deductions or some returns on asset classes can be considered as an income and capital gain will have different tax rates.

Expected return and risk: Every company has its own risk appetite (risk appetite means the maximum risk a company can take in order to achieve its objectives) so companies try to make a balance between risk and return of a particular asset before investing

Diversification: Suppose Company X has invested a lot of there assets in Domestic Large Cap Bank based equity, so more investment in same asset class will lead to decrease in diversification and increases the concentration risk. The more the risk, the more will be the capital requirement.

Competitors Strategy: Monitoring of competitor’s strategy plays a major role in own investment strategy

Financial position: If company X has a huge amount of assets and company Y has relatively less amount of assets. Then, technically X has a high risk appetite as compare to Y and they can invest in more risky assets to enhance returns

Follow us on Linkedin: Actuary Sense

Follow us on Instagram: Actuary Sense



Comments

Post a Comment

Popular posts from this blog

Do you know the difference between Excess and Deductibles ?

-
Image
Excess vs Deductibles: Let's have a look at little bit of background The main motive behind both of these is to safeguard the insurance company from frequent or frivolous claims. People after purchasing the insurance policy become careless because they know that in case of any incident they will be paid off from the insurance company so to avoid this excess or deductible are used. Now,the main difference are as follows: An excess is an amount a policyholder must bear before the liability passes to the insurer (subject to the sum insured) Deductible is an amount withheld by the insurer from the claim amount paid to the policyholder. Let's see 2 examples to understand in an easy way. Scenario 1 A policy has a sum assured of $1000 and an excess of $100 Now if the loss to insured is $500, then insurer will pay 500 -100 = $400 If loss to the insured is $1500, then insurer will pay $1000 (as it is the max amount that insurer can pay) Scenario 2 A policy has a sum assured of $1000 and
Read more

IFRS 17 - Actuarial Science - Part 1

-
Image
IFRS 17 Insurance Contracts is a new accounting standard that entities are expected to apply for reporting periods beginning on or after 1 January 2023 (though earlier application is permitted). An accounting standard is a common set of principles, standards, and procedures that define the basis of financial accounting policies and practices. It supersedes IFRS 4 Insurance Contracts as it was an interim standard for Insurance Contracts and lacked comparability, transparency, usefulness and qualify of information for insurers and key stakeholders. IFRS17 aims to increase the usefulness, comparability, transparency and quality of insurers financial statements. CSM (Contractual Service Margin) A fundamental concept introduced by IFRS 17 is the contractual service margin (CSM) . The CSM , in most instances, represents the unearned profit that an entity expects to earn as it provides services. IFRS17 is a principles-based standard, so entities must apply significant judgement when determ
Read more

Do you know about every Probability Distribution function with cool examples?

-
Image
  Probability Distributions:  It is a mathematical formula which helps us to find out the chances of occurring of an event. If we say that our dataset belongs to some particular distribution then we can say that probability of events in such dataset behave in a particular pattern. Say, the dataset is from uniform distribution then each and every event of range will have equal chances of occurring.   Types of distributions: Discrete Distributions:  Distributions defined for discrete random variables (which can take countable values such as 0,1,2,3….) are known as discrete distributions. Following given distributions are discrete: Uniform Distribution:  Data is said to be uniformly distributed if the probability of events is equal.                                               For example : Events in throw of a dice or flipping a coin have equal probabilities.   The number of bouquets sold daily at a flower shop is uniformly distributed with a maximum of 40 and a minimum of 3
Read more