Abstract
Traditional participating life insurance contracts with year-to-year (cliquet-style) guarantees have come under pressure in the current situation of low interest rates and volatile capital markets, in particular when priced in a market-consistent valuation framework. In addition, such guarantees lead to rather high capital requirements under risk-based solvency frameworks such as Solvency II or the Swiss Solvency Test (SST). Therefore, insurers in several countries have developed new forms of participating products with alternative (typically weaker and/or lower) guarantees that are less risky for the insurer. In a previous paper, it has been shown that such alternative product designs can lead to higher capital efficiency, i.e., higher and more stable profits and reduced capital requirements. As a result, the financial risk for the insurer is significantly reduced while the main guarantee features perceived and requested by the policyholder are preserved. Based on these findings, this paper now combines the insurer’s and the policyholder’s perspective by analyzing product versions that compensate policyholders for the less valuable guarantees. We particularly identify combinations of asset allocation and profit participation rate for the different product designs that lead to an identical expected profit for the insurer (and identical risk-neutral value for the policyholder), but differ with respect to the insurer’s risk and solvency capital requirements as well as with respect to the real-world return distribution for the policyholder. We show that alternative products can be designed in a way that the insurer’s expected profitability remains unchanged, the insurer’s risk and hence capital requirement is substantially reduced and the policyholder’s expected return is increased. This illustrates that such products might be able to reconcile insurers’ and policyholders’ interests and serve as an alternative to the rather risky cliquet-style products.
Highlights
We show that alternative products can be designed in a way that the insurer’s expected profitability remains unchanged, the insurer’s risk and capital requirement is substantially reduced and the policyholder’s expected return is increased
Traditional participating life insurance products have come under significant pressure in the current environment with low interest rates and capital requirements based on risk-based solvency frameworks such as Solvency II or the Swiss Solvency Test (SST)
We have considered three different product designs: a traditional product with year-to-year cliquet-style guarantees which is common in Continental Europe, and two products with alternative guarantees
Summary
Traditional participating (i.e., non-linked) life insurance products have come under significant pressure in the current environment with low interest rates and capital requirements based on risk-based solvency frameworks such as Solvency II or the Swiss Solvency Test (SST) This is due to the fact that these products usually come with very long-term and year-by-year (cliquet-style) guarantees which make them rather risky (and capital intensive) from an insurer’s perspective. Reuß et al [13] introduce participating products with alternative forms of guarantees They analyze the impact of alternative guarantees on the capital requirement under risk-based solvency frameworks and introduce the concept of Capital Efficiency which relates profits to capital requirements.
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