Modelling changes in the Balance Sheet

 

StuffToDo

 

Modelling changes in the Balance Sheet Business logic Time periods How far forward? Payment patterns Balance Sheet Assets Liabilities P&L Income Premiums Total Investment return Reinsurance recoveries Outgo expenses loss payments (claims) Commission Reinsurance payment tax

 

We want to start with balance sheet information at t=0, and then model how the information changes over time. We'll do this through P&L items.

 

The basic algorithm will be something like:

 Initialise model structure
 For each simulation
   Initialise model to t=0
   For each time period
     Progress model through time period
     Record information for that time period
     Apply business logic at end of time period
   Record information for that simulation
 Analyse information across all simulations

 

Business logic

 

The type of thing that would count as business logic includes

• Rebalancing of assets
• Change in business mix

 

As ever, we'd want to start out with the simplest possible case: for example, have cash as the only asset type. Then move on to having different types of cash (ie, different interest rates). Then bonds. Then equities.

 

We'd also eventually want to be able to consider asset mix per class of business, and separately for free assets.

 

Time periods

 

Initially do code to cope with n periods per year; n could be 1, 4, 12; but we'll think quarterly for programming so the difficulties are considered explicitly. for example, some things will happen only at year end.

 

How far forward?

 

How many years of future new business to project (1-3 yrs to start with)?

How many years of old business to include?

Over what future time period to assess the risks - to ultimate, but what does this mean in practice?

(well worth including run off for other working parties who will want to look at this...)

 

Payment patterns

 

We will need to deal with the claims settlement pattern - whether this is deterministic or stochastic will have an impact on the reserving risk. (perhaps deterministic for now, stochastic a bit later?)

 

Premiums also have a payment pattern, and potentially the expenses also, but it would be simpler to assume that both these transactions are settled as soon as they occur.

 

Later we could add impact of operational isues and disputes resulting in

• delay between being on risk and receiving premium
• delay between paying a claim and recovering from reinsurers

 

However, we do need to include credit risk of not receiving full claims recoveries.

 

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Balance Sheet

 

Assets

 

Investments

• start with just cash
• add bonds, and maybe even equities, later.

 

Liabilities

 

Loss Reserves from each line of business

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P&L

 

Income

Premiums

• From each line of business
• Underwriting cycle module?
• Trend module?
• experience - make premiums deterministic apart from inflation?
• based on exposure and then apply a rating factor?
• Earning of exposure: don't do this yet..... (DAC, UPR etc)

 

Total Investment return

• Income
• capital gains
• Default risk (assume in bond yield for now, or when we do bonds, at any rate)

 

Reinsurance recoveries

• From each reinsurance treaty
• quota share
• XOL
• not multi year or aggregates at this stage
• credit risk of reinsurer (not yet).

 

Outgo

expenses

• from each line of business
  • % of premium?
  • % of claims paid?
  • levies, esp for overseas business?
• plus fixed expenses?

loss payments (claims)

• from each line of business
• including change in reserves.
• Straight to ultimate or consider under/overreserving??)

Commission

• from each line of business
• Separately from expenses?

Reinsurance payment

• ie, premium paid to reinsurer
• From each reinsurance treaty
• from each line of business
• if a % of premium received, payable at same time as premium?
• Adjust for commission receivable
• general issues of timing

tax

• Assume tax is based on pre-tax profit (ie, all other components of P&L)
• Assume paid at end of the year?