This subject arises through a fusion of compound interest theory with probability theory, and provides the mathematical framework necessary for analysing such contracts, which are essentially long term financial transactions in which the various cash flows at different times are contingent on the death (life assurance) or survival (life annuities) of one or more specified human lives. Having developed this framework, we can address issues such as how to determine the premium that should be charged for a certain life assurance contract, including allowance for expenses and/or profit, and how to determine the value that should be represented in the balance sheet of a life assurance company in respect of the policies that it has sold. These examples reflect the two main traditional areas of actuarial activity within a life assurance company: pricing and reserving.
The module begins with an examination of the various factors that affect mortality, and of how risk classification may be used to address the heterogeneity within a given population. Next, probabilities of survival and death are introduced, and it is shown how these may be represented within and extracted from life tables. Compound interest theory is then combined with such probabilities to analyse and evaluate both life assurance benefits and life annuity benefits. With the relevant theory fully developed, the module then becomes somewhat more applied. Premium calculation is explored in detail first, followed by the determination and application of reserves, and, in both areas, the theory is applied to quite realistic and complex problems. Finally, the alternative perspective of cash-flow analysis, or profit-testing, is introduced and applied to assess the emergence of profit from, and overall profitability of, a life contract.
Pre-requisite for MATH3066
Prerequisites: (MATH2011 AND MATH2040) OR (MATH2040 AND ECON1011)
Aims and Objectives
Having successfully completed this module you will be able to:
- define and use standard annuity and assurance functions for a single decrement model, including both select and ultimate functions, and demonstrate the relationships between corresponding annuity and assurance functions
- Analyse simple problems of emerging costs using simple single decrement models
- show how the relationship between the pricing basis and reserving basis affects the emergence of profit for simple assurance and annuity contracts
- Describe the various factors that affect mortality, and how risk classification may be used to address the heterogeneity within a given population
- analyse the liabilities of simple assurance and annuity contracts, both in terms of emerging costs and present values, in relation to product pricing, reserving, and their applications
- analyse straightforward problems involving an equation of value, using a single decrement model to take account of the probability of the payments being made;
- calculate present values and accumulated values of cash flows at a specified rate of interest, using a single decrement model to take account of the probability of the payments being made;
- Show how a single decrement model may be used to describe the evolution of a population subject to a single source of decrement
- Define terms associated with single decrement models, such as radix, decrement rate (failure rate, mortality rate), probability of survival, expectation of life, hazard rate (force of mortality
- conduct a cash-flow analysis and profit test for a unit-linked contract or complex conventional contract.
Factors affecting human mortality. Selection. Risk classification.
Survival models, survival functions, survival tables. Temporary initial selection in mortality tables. Select, ultimate, and aggregate mortality rates.
Single decrement functions and inter-relationships. Radix, decrement rate (failure rate, mortality rate), probability of survival, expectation of life, hazard rate (force of mortality). Human mortality functions. Probability (density) functions, mean, and variance for complete future lifetime and curtate future
Hazard rate functions due to Gompertz and Makeham. Laws of mortality.
Cash flows under financial contracts dependent on death or survival. Concept and calculation of present value and accumulated value of a contingent stream of payments. Mean and variance of such a present value.
Equations of value for given contingent payment streams and methods of solution for unknown payment amounts, times of payment, and yields.
Cash flows for pure endowments, level and varying immediate annuities, level and varying whole life, endowment, and term assurances, including critical illness insurance, for a single life, and
corresponding standard annuity and assurance functions. Present values and accumulated values for such contracts. Mean and variance of such present values. Extension to annuities payable more frequently than once per year and to assurances payable immediately on death. Definition and use of corresponding commutation functions, and their relationships to annuity and assurance functions.
Equations of value for net and office premiums for assurance and annuity contracts, and their solution.
Reserves and calculation of policy values by both retrospective and prospective methods.
Expected and actual death strain, mortality profit.
Paid-up policy values, surrender values, alterations.
Emergence of profit from a contract, for a given reserving basis and discount rate. Profit testing, profit vector, profit signature, and measures of profitability.
Choice of pricing and reserving bases, and why they may differ. Effect of choice of basis on emergence of profit.
Cash-flow modelling and profit testing for unit-linked contracts and for complex conventional contracts.
Learning and Teaching
Teaching and learning methods
Lectures, assigned problems, private study
|Total study time||150|
Resources & Reading list
Benjamin B, Haycocks HW & Pollard JH (1980). The Analysis of Mortality and Other Actuarial Statistics. Butterworth-Heinemann.
Dickson DCM et al (2009). Acutarial Mathematics for Life Contigent Risks. CUP.
Faculty of Actuaries and Institute and Faculty of Actuaries (2002). Formulae and Tables for Actuarial Examinations. Faculty of Actuaries and Institute and Faculty of Actuaries.
D.C.M. Dickson, M.R. Hardy, and H.R. Waters (2013). Actuarial Mathematics for Life Contingent Risks. Cambridge University Press.
Neill A (1977). Life Contingencies. Heinemann.
Promislow SD (2005). Fundamentals of Actuarial Mathematics. John Wiley.
Jordan CW (1975). Textbook on Life Contingencies. Society of Actuaries.
Gerber HU (1997). Life Insurance Mathematics. Springer.
Bowers NL et al (1997). Actuarial Mathematics. Society of Actuaries.
This is how we’ll formally assess what you have learned in this module.
This is how we’ll assess you if you don’t meet the criteria to pass this module.
Repeat type: Internal & External