This question paper must be SEAT NUMBEI retued. Candidates are not ppormitted to remove any part FAMILY NAME.. (Of from the examination room, Room: OTHER NAMES. STUDENT NUMBER., o MACQUARIE UNIVERSITY SESSION 1 EXAMINATIONS - JUNE 2013 UnitCode/Name: ACST402/831/034X Actuarial Control Cycle 4 ‘Time Allowed: Three (3) hours plus ten (10) minutes reading time otal Number Seven (7)n total. The numberof marks for each question is shown, ‘fQuestions: —_in parertheses at he start ofthe question. Instructions: “The marks for this paper total 100. You should wer al questions. ‘You have been supplied with coven (7) answer booklets. Label them 1, G2, 28, 24, 25, 06 and O7 respectively, then answer each ‘question inthe corresponding soparate booklet. Write your name and student ID atthe top ofthis question paper, as wall as on each of your answer bookets Hand in thi queaton Paper and your seven answer booklets at the end of the exam, Materials Allowed: Students are not permited to bring any notes materials into the No dictionaries permitted Non programmable calculators (no text retioval capac) permitted, ‘This examination is being holdin a number of locations internationally and itis inevitable that there wil be differences in timing of up to several hours. You are ‘absolutely prohibited from doing anything that may lead to other students gaining information about this exam paper before sitting for the examination. Any breaches (cithor disclosing Information or receiving information) willbe viewed as professional ‘misconduct as wel as an infringement of University rules anc willbe dealt with ‘accordingly.Question 1 (13 marks) @ © © © “Enterprise Risk Management is not myjob— itis the jab of everyone in the organisation* ‘= Chief Risk Officer of large general Insurance company Explain in your own words the role of the Chief Risk Offcor CRO") of # general Insurance company. emacs) Why do you think the CRO made tho statement in aes above? 2 marks} ‘What role does a CRO have in establishing the Risk Appetite ofthe company? [3 marks] In the last two years a general insurance company has experienced unusually large Catastrophe claims from earthquakes, cyones, foc, hall sions and bushfires. The (GRO has been asked fo lead a management sk rcs 10 eviw the operabons of Ne Company to ensure thet the catastrophe risk expesuros of the company are being ‘managed in a way that is consistent wih the risk appetite. Tho aim isto leam from the recent experience and ensure thatthe company Is “eady for futur calastrophes, List the issues / areas of he business you thnk the CRO should focus on and explain why each is important. {6 marks] Question 2s over the page(Question 2(14 marks) ‘Your frien Li is a firancal journalist who has been asked to write an article on the <\tfectveness ofthe prudential regulator ofthe fhancial services Industry, Financial services Companies have been arguing thatthe Increased costs of complying wih now regulations have resulted in higher charges to their customers without ary benefits in return In response the prudential regulator has mage the folowing points: ‘+ Theres considerable information asymmetry between fnancial senices organisations and their customers ‘= The main role of the prudential regulator isto promote confidence i the industry and this benefits the industry greatly ‘+The anual rect costs of the prudental regulator ae modest at 3 cants por $1,000 of assets ofreguated organisations ‘+The regulator has played an active role in identifying high risk organisations and managing thelr restucure. About two-thirds of identifed high rek compari la the market with no losses to customers and most of the others retumed to. normal ‘operations wit lower risk. In the last ten years the annual fale rate of regulated organsations (falures resulting in loss to customers) has been enly one in every ‘thousand organisations. Li has asked for your help in interpreting some of tie informaton. Please craft an email to Li covering he folowing points: (Remember to answer each question in anew answer booklet.) (2) Explah the meaning of asymmetric information inthe fancal services Industy and ‘ive an example to letrta the meaning, [2 marks] (©) Briefly describe the main methods used by the prudential regulator to promote confidence in the fnaneal services industy [a marks] (© Apart fom the direct costs of the regulator Ise, identy two (2) cher categories of the costs of regulation tothe industry, with an example ofeach, 4 marks] (Discuss the role of the prudential regulator in managing high risk companies and ‘assess the sucoets ofthe regulator fom the information presentad above. [S marks] Question 2 is over the page‘Question 3 (13 marks) My Choice Mortgages ("MCN") is a long-established morigage broker. The customers of [MGM are mosty young couples who require nance to purchase thr first home, ‘As amortgage broker, MCM: + Assesses the financial capac of ts customers to borrow + Holps customers to choose the best loan fram a wide range of leans offered by banks ‘and other lenders ‘= Helps customers to complete the loan applications. ‘The customers of MCM are advised by loan consultants employed by MCM. These loan consultants often have previous bank experience so they are familar wih the loan ‘pplication and approval process. ‘When MCM arranges a loan fom a lender io @ customer, MCM receives an inal and trail commissions from the lender ‘ecogrising the work performed by MGM. Customers pay the ‘same fees and interest rates as If they deal ircty with fe lender. ‘his business model has werked wol for MCM but NCM is considering expanding ite product offerings from mortgage loans to incude te fllowing: ‘+ Losn-eiated insurance products such as Ifo insurance to repay the loan in the event of the death of a borrower, and disability ard unemployment insurance to cover the loan repayments in the event of acident, sickness or unemployment ofa borrower '* Building and contents insurance to cover the home and contents against the risks of ‘accidental damage, fre and theft ‘+ Financial planning including advice on superannuation and Investments [MCM has asked your consuling firm to help them to prepare the business case for this proposal. Asa stating point plsase prepare notes onthe folowing ssues (2) The suitabilty ofthe prososed products for MCM's customers (including any risks for customers that may be assodated with buying the product trough MCM). [8 marks] (©) The rcks to MCM in extending its product range as proposed. [4 marks} (©) Aspacte of tho propocal that might be of ntoract/ concom fo the soneumer protection regulator [marks] ‘Question 4 is over the page‘Question 4 (15 marks) {A fe insurence company sells deabilty income insurance. This product provides n monthly ‘income to customers who are unable fo work because of accident or sleknees. Last year the aims experience was much worse than expected. There were more new claims than ‘expected and fewer than expected claimants timed to work. ‘The Chief Financial Officer of the company ("CFO") is interested to estabish whether there Is a ink between dsabilty income clams and economic conditons e.g. te level of growth in the economy or the tvel of unemployment. The CFO considers that understanding any links would be helpful in managing this business, ‘The CFO has asked you fo ty to construct a model ofthe relationship between disability income cans and he state of the economy. Outline in a memo tothe CFO: (@) The data you would collect and the preliminary analyses you would undertake to form an Iital understanding ofthe relationship. 14 mark] (©) A bret description ofthe general stops required to construct the modal (you do not need b provide space dels) {4 marks) (2) Any practical challenges yu sain conetructing te mode. 4 macs} (2) The praca ows you can S08 for ne mode mans] Question 5 is over the pageQuestion 5 (13 marks) Credit risks fundamental businoss risk for banks and simiar organisations, Prudential regulators require banks fo hold risk-based capital covering ordi feks and other reks fo Improve the security of customers. (8) Explan the meaning of eet risk for a bank and of riskbased capitel, [8 marks} (©) Give four (4) examples of loan characteristics that affect the riskiness of loans made by banks to their customers, 2 mars] (©) Expiah how a prudential regulator might estabish risk-based captal requirements ‘hat refect the love of credit risk in each regulated bank. Use examples to llustrate your suggestio(s) (marks) (Some banks use securitisation to reduce the credit risks in their loan portfolios. Explah the mearing of soculsaion and describe any disacvantages you see tothe bank h securicing fis loans. Under what circumstances might a prdonil regulator jow the risk-based capital requirements to be reduced when'a loan porvoio i seourlised? [marks], Question 6 Is over the pageQuestion 6 (14 marks) ‘You are working as the pricing actuary for alte Insurance company. The company seis 3 CCompetive torn Ife ineurence product through 2 lrge number of Independent financial planners. The company has a’ 10% market share of both new business and In-orce business ‘The produc is step-ated so premiums Increase each year with the age of the life insure. Promium rates are guarantoed renewable so the company is obliged 10 continue the poles a lg as the premiums are pad ‘The company folows indusiry practice of paying commissions to the planners of 115% of premiums in the ft polcy year anc 10% of premiums in subsequent poly year. In the last two years lapso rats for these policies have Increased sharply both for your Company and for the industy as a whole. The company’s product manager who is not an ‘actuary is concemed about the impact on profiably ofthe eased lapse rates, Wete an email to the product manager explaining the consequences of the lapse ‘experience on the prftbiy of the business including the following aspects suggest he key causes of high lapse rates; + In general terms explain how higher lapses affect the profitably of this porto, + more specially, bref explain how higher lapse rates affect the cash fows In your Profi tasting sproadshests ‘+ brety desorbe two measures of profitably you uso fortis product and explaln how higher lapse rates effect each measure, describe what further analysis you think should be made before deciding how to deal wth this issue; and ‘+ most important, given thet your company’s main competitors have not changod their pricing, what strategic options do you see for your company and what are the advantages and cleadvantages of each? Question 7's over he pageQuestion 7 (18 marks) (2) Explain what is meant by the tm community rating and expain some of the escent ways that lifes rom sk rating, TB marks] (©) Deserve with reasons the circumstances in which community rating systems might be required by insurance regulators. {8 marks} (©) What are the advantages and disadvantages of community rating and risk rating systems? Refer to practical examples, including comparison of private health rance wat Me insurance in Australia, and a comparison of compulsory third party insurance and comprehensive motor inaurance in New South Wales. (5 marks) (©) The provision of insurance on affordable ters is often problematic for natural hazards, such as foods and earthquakes, where the risks are highly variable. Refer to recent experience with natural disasters both in Australia and elsewhere and descrbe ‘ome practical methods that are Used fo extend insurance coverage for uncertain and exteme events. A marks], (@) Do you think that some of the principles of community rating might be useful in Improving the markot for food ieurance in Quoeneland, and <0, how? [3 marks} END OF THE EXAM