CAS Exam 6C Spring 2018, Question 24
Study guide: Exam 6C
Given the following information, describe four ways in which the Appointed Actuary (AA) likely did not follow the appropriate standards of practice or educational guidance for the DCAT analysis and briefly describe what the appropriate action would have been in each instance.
An AA is preparing the DCAT analysis for a federally-regulated Canadian property and casualty insurance company which began operations in 2012. The most recent fiscal year-end for the company is December 31, 2017 and the AA performs the analysis in July 2018. The company's business plan incorporates actual results through December 31, 2017.
The AA begins by reviewing the operations of the 2017 year, including the statement of income and balance sheet. The review includes the source of earnings and several regulatory measures of capital adequacy. The AA then prepares the base scenario using the company's business plan as a starting point. The forecast period extends from December 31, 2017 through December 31, 2019. After a review of the results, the AA concludes that the premium growth of the business plan is aggressive and unrealistic given the growth observed in 2017, and materially reduces this assumption. The MCT ratio of the company remains above 150% throughout the forecast period in the base scenario.
Next, the AA reviews the various risk categories to which the company may be vulnerable. The AA decides to first determine how far each risk factor has to be changed in order to drive the insurance company's surplus negative during the forecast period, then adjusts the level of the risk factor to be consistent with a 95th to 99th percentile range, with most scenarios in the top half of that range. The AA decides that the reinsurance risk and off-balance-sheet risk categories are not relevant and does not perform any analysis on them.
The AA applies the risk category changes in the first forecast year to model the plausible adverse scenarios and stratifies the scenarios using their preliminary MCT ratios at the end of the forecast period. The worst five scenarios are the following:
| Rank | Risk Category | Scenario Tested | MCT at December 31, 2019: Preliminary | MCT at December 31, 2019: Final |
|---|---|---|---|---|
| 1 | Claim Frequency/Severity | Occurrence of Multiple Catastrophe Events | 95% | 91% |
| 2 | Premium | Premium Volume Significantly Higher | 110% | 115% |
| 3 | Policy Liabilities | Misestimation of Policy Liabilities | 119% | 115% |
| 4 | Inflation | Significant, Rapid, Sustained Increase | 142% | 142% |
| 5 | Investment | Decrease in Value of Equities | 166% | 166% |
The AA then selects three scenarios, Occurrence of Multiple Catastrophe Events, Premium Volume Significantly Higher, and Misestimation of Policy Liabilities for further analysis. For these scenarios, the AA considers system-wide interactions, ripple effects, macroeconomic effects, and possible corrective management actions. The final MCT ratio results are also included in the table on the previous page.
Finally, the AA produces the DCAT report, including all applicable sections with a disclosure for reasons for deviating from the business plan's premium assumption in the base scenario. The AA includes a signed opinion on the insurance company's financial condition. Because the Occurrence of Multiple Catastrophe Events scenario's MCT ratio falls below the minimum requirement prescribed by Office of the Superintendent of Financial Institutions Canada (OSFI), the AA reports that the insurance company's financial condition is not satisfactory.
Part a (3 points)
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