The cross-classified chain ladder has a number of versions, depending on the distribution to which observations are subject. The simplest case is that of Poisson distributed observations, and then maximum likelihood estimates of parameters are explicit. Most other cases, however, including Bayesian chain ladder models, lead to implicit MAP (Bayesian) or MLE (non-Bayesian) solutions for these parameter estimates, raising questions as to their existence and uniqueness. The present paper investigates these questions in the case where observations are distributed according to some member of the exponential dispersion family.

We bring the recently developed framework of dependence uncertainty into collective risk models, one of the most classic models in actuarial science. We study the worst-case values of the Value-at-Risk (VaR) and the Expected Shortfall (ES) of the aggregate loss in collective risk models, under two settings of dependence uncertainty: (i) the counting random variable (claim frequency) and the individual losses (claim sizes) are independent, and the dependence of the individual losses is unknown; (ii) the dependence of the counting random variable and the individual losses is unknown. Analytical results for the worst-case values of ES are obtained. For the loss from a large portfolio of insurance policies, an asymptotic equivalence of VaR and ES is established. Our results can be used to provide approximations for VaR and ES in collective risk models with unknown dependence. Approximation errors are obtained in both cases.

Longevity swaps have been one of the major success stories of pension scheme de-risking in recent years. However, with some few exceptions, all of the transactions to date have been bespoke longevity swaps based upon the mortality experience of a portfolio of named lives. In order for this market to start to meet its true potential, solutions will ultimately be needed that provide protection for all types of members, are cost effective for large and smaller schemes, are tradable, and enable access to the wider capital markets. Index-based solutions have the potential to meet this need; however, concerns remain with these solutions. In particular, the basis risk emerging from the potential mismatch between the underlying forces of mortality for the index reference portfolio and the pension fund/annuity book being hedged is the principal issue that has, to date, prevented many schemes progressing their consideration of index-based solutions. Two-population stochastic mortality models offer an alternative to overcome this obstacle as they allow market participants to compare and project the mortality experience for the reference and target populations and thus assess the amount of demographic basis risk involved in an index-based longevity hedge. In this paper, we systematically assess the suitability of several multi-population stochastic mortality models for assessing basis risks and provide guidelines on how to use these models in practical situations paying particular attention to the data requirements for the appropriate calibration and forecasting of such models.

This paper analyzes optimal risk sharing among agents that are endowed with either expected utility preferences or with dual utility preferences. We find that Pareto optimal risk redistributions and the competitive equilibria can be obtained via bargaining with a hypothetical representative agent of expected utility maximizers and a hypothetical representative agent of dual utility maximizers. The representative agent of expected utility maximizers resembles an average risk-averse agent, whereas representative agent of dual utility maximizers resembles an agent that has lowest aversion to mean-preserving spreads. This bargaining leads to an allocation of the aggregate risk to both groups of agents. The optimal contract for the expected utility maximizers is proportional to their allocated risk, and the optimal contract for the dual utility maximizing agents is given by “tranching” of their allocated risk. We show a method to derive equilibrium prices. We identify a condition under which prices are locally independent of the expected utility functions, and given in closed form. Moreover, we characterize uniqueness of the competitive equilibrium.

The life annuity business is heavily exposed to longevity risk. Risk transfer solutions are not yet fully developed, and when available they are expensive. A significant part of the risk must therefore be retained by the life insurer. So far, most of the research work on longevity risk has been mainly concerned with capital requirements and specific risk transfer solutions. However, the impact of longevity risk on shareholder value also deserves attention. While it is commonly accepted that a market-consistent valuation should be performed in this respect, the definition of a fair shareholder value for a life insurance business is not trivial. In this paper, we develop a multi-period market-consistent shareholder value model for a life annuity business. The model allows for systematic and idiosyncratic longevity risk and includes the most significant variables affecting shareholder value: the cost of capital (which in a market-consistent setting must be quantified in terms of frictional and agency costs, net of the value of the limited liability put option), policyholder demand elasticity and the cost of alternative longevity risk management solutions, namely indemnity-based and index-based solutions. We show how the model can be used for assessing the impact of different longevity risk management strategies on life insurer shareholder value and solvency.

Insurance companies and pension funds must value liabilities using mortality rates that are appropriate for their portfolio. These can only be estimated in a reliable way from a sufficiently large historical dataset for such portfolios, which is often not available. We overcome this problem by introducing a model to estimate portfolio-specific mortality simultaneously with population mortality. By using a Bayesian framework, we automatically generate the appropriate weighting for the limited statistical information in a given portfolio and the more extensive information that is available for the whole population. This allows us to separate parameter uncertainty from uncertainty due to the randomness in individual deaths for a given realization of mortality rates. When we apply our method to a dataset of assured lives in England and Wales, we find that different prior specifications for the portfolio-specific factors lead to significantly different posterior distributions for hazard rates. However, in short-term predictive distributions for future numbers of deaths, individual mortality risk turns out to be more important than parameter uncertainty in the portfolio-specific factors, both for large and for small portfolios.

Motor insurance is a very competitive business where insurers operate with quite large portfolios, often decisions must be taken under short horizons and therefore ruin probabilities should be calculated in finite time. The probability of ruin, in continuous and finite time, is numerically evaluated under the classical Cramér–Lundberg risk process framework for a large motor insurance portfolio, where we allow for a posteriori premium adjustments, according to the claim record of each individual policyholder. Focusing on the classical model for bonus-malus systems, we propose that the probability of ruin can be interpreted as a measure to decide between different bonus-malus scales or even between different bonus-malus rules. In our work, the required initial surplus can also be evaluated. We consider an application of a bonus-malus system for motor insurance to study the impact of experience rating in ruin probabilities. For that, we used a real commercial scale of an insurer operating in the Portuguese market, and we also work on various well-known optimal bonus-malus scales estimated with real data from that insurer. Results involving these scales are discussed.

Motivated by a recent discovery that the two-step inference for the Lee–Carter mortality model may be inconsistent when the mortality index does not follow from a nearly integrated AR(1) process, we propose a test for a unit root in a Lee–Carter model with an AR(p) process for the mortality index. Although testing for a unit root has been studied extensively in econometrics, the method and asymptotic results developed in this paper are unconventional. Unlike a blind application of existing R packages for implementing the two-step inference procedure in Lee and Carter (1992) to the U.S. mortality rate data, the proposed test rejects the null hypothesis that the mortality index follows from a unit root AR(1) process, which calls for serious attention on using the future mortality projections based on the Lee–Carter model in policy making, pricing annuities and hedging longevity risk. A simulation study is conducted to examine the finite sample behavior of the proposed test too.

Although longevity risk arises from both the variation surrounding the trend in future mortality and the uncertainty about the trend itself, the latter is often left unmodeled. In this paper, we address this problem by introducing the locally linear CBD model, in which the drifts that govern the expected mortality trend are allowed to follow a stochastic process. This specification results in median forecasts that are more consistent with the recent trends and more robust relative to changes in the data sample period. It also yields wider prediction intervals that may better reflect the possibilities of future trend changes. The treatment of the drifts as a stochastic process naturally calls for nuga hedging, a method proposed by Cairns (2013) to hedge the risk associated with changes in drifts. To improve the existing nuga-hedging method, we propose a new hedging method which demands less stringent assumptions. The proposed method allows hedgers to extract more hedge effectiveness out of a hedging instrument, and is therefore useful when there are only a few traded longevity securities in the market.

In non-life insurance, territory-based risk classification is useful for various insurance operations including marketing, underwriting, ratemaking, etc. This paper proposes a spatially dependent frequency-severity modeling framework to produce territorial risk scores. The framework applies to the aggregated insurance claims where the frequency and severity components examine the occurrence rate and average size of insurance claims in each geographic unit, respectively. We employ the bivariate conditional autoregressive models to accommodate the spatial dependency in the frequency and severity components, as well as the cross-sectional association between the two components. Using a town-level claims data of automobile insurance in Massachusetts, we demonstrate applications of the model output–territorial risk scores–in ratemaking and market segmentation.

Episode Treatment Groups (ETGs) classify related services into medically relevant and distinct units describing an episode of care. Proper model selection for those ETG-based costs is essential to adequately price and manage health insurance risks. The optimal claim cost model (or model probabilities) can vary depending on the disease. We compare four potential models (lognormal, gamma, log-skew-t and Lomax) using four different model selection methods (AIC and BIC weights, Random Forest feature classification and Bayesian model averaging) on 320 ETGs. Using the data from a major health insurer, which consists of more than 33 million observations from 9 million claimants, we compare the various methods on both speed and precision, and also examine the wide range of selected models for the different ETGs. Several case studies are provided for illustration. It is found that Random Forest feature selection is computationally efficient and sufficiently accurate, hence being preferred in this large data set. When feasible (on smaller data sets), Bayesian model averaging is preferred because of the posterior model probabilities.

The new Solvency II Directive and the upcoming IFRS 17 regime bring significant changes to current reporting of insurance entities, and particularly in relation to valuation of insurance liabilities. Insurers will be required to valuate their insurance liabilities on a risk-adjusted basis to allow for uncertainty inherent in cash flows that arise from the liability of insurance contracts. Whilst most European-based insurers are expected to adopt the Cost of Capital approach to calculate reserve risk margin — the risk adjustment method commonly agreed under Solvency II and IFRS 17, there is one additional requirement of IFRS 17 to also disclose confidence level of the risk margin.

Given there is no specific guidance on the calculation of confidence level, the purpose of this paper is to explore and examine practical ways of estimating the risk margin confidence level measured by Probability of Sufficiency (PoS). The paper provides some practical approximation formulae that would allow one to quickly estimate the implied PoS of Solvency II risk margin for a given non-life insurance liability, the risk profile of which is specified by the type and characteristics of the liability (e.g. type/nature of business, liability duration and convexity, etc.), which, in turn, are associated with

• • the level of variability measured by Coefficient of Variation (CoV);

• • the degree of Skewness per unit of CoV; and

• • the degree of Kurtosis per unit of CoV2.

The formulation of optimal reinsurance policies that take various practical constraints into account is a problem commonly encountered by practitioners. In the context of a distortion-risk-measure-based optimal reinsurance model without moral hazard, this article introduces and employs a variation of the Neyman–Pearson Lemma in statistical hypothesis testing theory to solve a wide class of constrained optimal reinsurance problems analytically and expeditiously. Such a Neyman–Pearson approach identifies the unit-valued derivative of each ceded loss function as the test function of an appropriate hypothesis test and transforms the problem of designing optimal reinsurance contracts to one that resembles the search of optimal test functions achieved by the classical Neyman–Pearson Lemma. As an illustration of the versatility and superiority of the proposed Neyman–Pearson formulation, we provide complete and transparent solutions of several specific constrained optimal reinsurance problems, many of which were only partially solved in the literature by substantially more difficult means and under extraneous technical assumptions. Examples of such problems include the construction of the optimal reinsurance treaties in the presence of premium budget constraints, counterparty risk constraints and the optimal insurer–reinsurer symbiotic reinsurance treaty considered recently in Cai et al. (2016).

This study considers a pure exchange economy with insurance against ambiguous loss. Ambiguity preferences are represented by the dual theory of the smooth ambiguity model from Iwaki and Osaki (2014). The economic premium principle of Bühlmann (1980, 1984) is extended to ambiguity. We also perform some comparative statics and present sufficient conditions under which an increase in ambiguity aversion increases insurance demand and insurance premiums. Contrary to the result in Tsanakas and Christofides (2006), the optimal demand for insurance is not always comonotonic, because our model permits an economy comprising both ambiguity averse and ambiguity loving agents.

In this paper, the density of the time to ruin is studied in the context of the classical compound Poisson risk model. Both one-dimensional and two-dimensional Fourier-cosine series expansions are used to approximate the density of the time to ruin, and the approximation errors are also obtained. Some numerical examples are also presented to show that the proposed method is very efficient.

We study the dual model with capital injection under the additional condition that the dividend strategy is absolutely continuous. We consider a refraction–reflection strategy that pays dividends at the maximal rate whenever the surplus is above a certain threshold, while capital is injected so that it stays non-negative. The resulting controlled surplus process becomes the spectrally positive version of the refracted–reflected process recently studied by Pérez and Yamazaki (2015). We study various fluctuation identities of this process and prove the optimality of the refraction–reflection strategy. Numerical results on the optimal dividend problem are also given.

This paper considers the problem of a lifelong health insurance cover where medical inflation is not sufficiently incorporated in the level premium determined at policy issue. We focus on the setting where changes in health benefits, driven by medical inflation, are accounted for by an appropriate update or indexation of the level premium, the policy value, or both premium and policy value, during the term of the contract. Such an updating mechanism is necessary to restore the actuarial equivalence between future health benefits and surrender values on the one hand, and available policy values and future premiums on the other hand. We extend existing literature (Vercruysse et al., 2013; Denuit et al., 2017) by developing updating mechanisms in a discrete-time framework, where medical inflation is only taken into account ex-post as it emerges over time and where surrender values are allowed for. We propose and design two types of surrender values: based on the ageing provision on the one hand and based directly on the premiums paid until surrender on the other hand. We illustrate our updating strategy with numerical examples, using Belgian data, and investigate the sensitivity of our findings with respect to elements from the technical basis (in particular: the lapse rates) used in the actuarial calculations. Our updating mechanism is generic and useful for a wide range of products in life and health insurance, where some elements of the technical basis are guaranteed while others are subject to revision according to policy conditions.

This paper provides an optimal asset allocation strategy to enhance risk management performance in the face of a financial crisis; this strategy entails constructing a good asset model – a multivariate jump-diffusion (MJD) model which includes idiosyncratic and systematic jumps simultaneously – and choosing suitable asset allocations and objective functions for fund management. This study also provides the dependence structure for the MJD model. The empirical implementation demonstrates that the proposed MJD model provides more detailed information about the financial crisis, allowing fund managers to determine an appropriate asset allocation strategy that enhances investment performance during the crisis.

Using data on joint annuities, we conduct an analysis of the inter-couple lifetime dependence. We estimate a mixed proportional hazards model with treatment effects, which disentangles the broken-heart syndrome from the spurious risk dependence induced by unobserved heterogeneities. We use a flexible semi-parametric distribution for the unobserved heterogeneities to allow for either positive or negative spurious risk dependence. We find that the effect of losing one's spouse is asymmetric for the two sexes. Moreover, although the broken-heart syndrome explains a large portion of the dependency, there is evidence of positive spurious risk dependence. These findings have important implications for the pricing of joint insurance products. Failure to take into account either of these two effects leads to pricing error that can be either positive or negative, depending on the characteristics of the couple.

We consider the optimal financing (capital injections) and dividend payment problem for a Brownian motion model in the case of restricted dividend rates. The company has no obligation to inject capitals and therefore, the bankruptcy risk is present. Capital injections, if any, will incur both fixed and proportional transaction costs and dividend payments incur proportional transaction costs. The aim is to find the optimal strategy to maximize the expected present value of dividend payments minus the total cost of capital injections up to the time of bankruptcy. The problem is formulated as a mixed impulse-regular control problem. We address the problem via studying three cases of two auxiliary functions. We derive important analytical properties of the auxiliary functions and use them to study the value function and then identify the optimal control strategy. We show that the optimal dividend control is of threshold type and the optimal financing strategy prescribes to either never inject capitals or inject capitals only when the surplus reaches 0 with a fixed lump sum amount.