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Life Insurance Underwriting Risks

Life insurance risks encompass underwriting risk and discount rate risk in technical provisions. Underwriting risk includes biometric, policyholder behavior and expense risks. This chapter presents the development of these life insurance risks during 2012 and the management principles of these risks.

The figure Illustration of life insurance risk concepts depicts the life insurance risk on a general level.

Illustration of Life Insurance Risk Concepts 


Biometric Risks

Biometric risks in life insurance refer mainly to the risk that the company has to pay more mortality, disability or morbidity benefits than expected or the company has to keep paying pension payments to the pension policy holders for a longer time (longevity risk) than expected when pricing the policies. The specific case in which a single event or series of single events of major magnitude leads to a significant deviation in actual benefits and payments from the total expected payments is called catastrophe risk.

Long duration of policies and restriction of Mandatum Life’s right to increase tariffs increases biometric risks. If the premiums turn out to be inaccurate and pricing cannot be changed afterwards, technical provisions have to be supplemented with an amount corresponding to the expected losses.

The table Claim ratios after reinsurance, Mandatum Life, 2012 and 2011 shows the insurance risk result in Mandatum Life’s Finnish life insurance policies. The ratio of the actual claims costs to the assumed was 82 per cent in 2012 (77 per cent in 2011). Sensitivity of the insurance risk result can also be assessed on the basis of the information in the table. For instance the increase of mortality by 100 per cent would increase the amount of benefit payments from EUR 15 million to EUR 30 million.

Claim Ratios After Reinsurance
Mandatum Life, 2012 and 2011
  2012 2011

EURm

Risk income

Claim expense

Claim ratio

Risk income

Claim expense

Claim ratio

Life insurance

42.4

25.2

59%

42.6

23.0

54%

Mortality

25.9

14.9

57%

26.7

13.5

51%

Morbidity and disability

16.5

10.3

62%

15.9

9.5

60%

Pension

57.7

57.3

99%

58.9

55.6

94%

Individual pension

9.5

10.1

106%

9.5

10.1

106%

Group pension

48.2

47.2

98%

49.4

45.5

92%

Mortality (longevity)

43.5

44.2

102%

44.6

41.8

94%

Disability

4.7

3.0

64%

4.8

3.7

76%

Mandatum Life

100.1

82.5

82%

101.5

78.6

77%

Longevity risk is the most critical biometric risk in Mandatum Life. Most of the longevity risk arises from the with-profit group pension portfolio. With-profit group pension policies have mostly been closed for new members for years and due to this the average age of members is around 68 years. In the unit-linked group pension and individual pension portfolio the longevity risk is less significant because most of these policies are fixed term annuities including death cover compensating the longevity risk.

The annual longevity risk result and longevity trend is analyzed regularly. The assumed life expectancy related to the technical provisions for group pensions was revised in 2002 and additional changes were made in 2007. The cumulative longevity risk result has been positive since these revisions. The longevity risk result of group pension for the year 2012 was EUR -0.7 million (EUR 2.7 million in 2011).

Mortality risk result in life insurance is positive. A possible pandemic is seen as the most significant risk that could adversely affect the mortality risk result.

The insurance risk result of other biometric risks has been profitable in total, although the different risk results differ considerably. In a longer term, disability and morbidity risks are mitigated by the company’s right to raise insurance premiums for existing policies in case the claims experience deteriorates. New gender neutral pricing creates uncertainty, although risk result is expected to remain at the same level.

The insurance portfolio of Mandatum Life is relatively well diversified and does not include major concentration risks. To further mitigate the effects of possible risk concentrations, Mandatum Life has the catastrophe reinsurance in place.

Policyholder Behavior and Expense Risks

Uncertainty related to the behavior of the policyholders is a major risk as well. The policyholders have the right to cease paying premiums (lapse risk) and the possibility to interrupt their policies (surrender risk). Ability to keep lapse and surrender rates in a low level is a crucial success factor especially for the expense result of unit-linked business. From ALM point of view surrender and lapse risks are less significant because in Mandatum Life, approximately 90 per cent of with-profit policies are pension policies in which surrender is possible only in exceptional cases. For ALM risk, surrender risk is therefore only relevant in individual life and capital redemption policies of which the related technical provisions amounts to only 6 per cent (EUR 259 million) of the total with-profit liabilities. Furthermore, the supplements to technical provisions are not paid out at surrender which also reduces the surrender risk related to the with-profit policies.

Surrender and lapse risks are taken into account when the company is analyzing its ALM risk. This is described in more detail in the Market risks chapter.

The company is also exposed to expense risk, which is a risk that the future operating expenses exceed the level that was anticipated when pricing the insurances. Policy terms and tariffs cannot usually be changed materially during the lifetime of the insurance, which increases the expense risk. The main challenge is to keep the expenses related to insurance administrative processes and complex IT infrastructure at an efficient level. In year 2012, expense result was EUR 5.8 million (EUR 9.8 million in 2011). Mandatum Life does not defer insurance acquisition costs.

Discount Rate Risk in Technical Provisions

Discount rate risk in technical provisions is the main risk affecting the adequacy of technical provisions. The guaranteed interest rate in policies is fixed for the whole policy period. Thus, if market interest rates and expected investment returns fall, technical provisions may have to be supplemented.

In most with-profit policies, the guaranteed interest rate is 3.5 per cent. In individual policies sold in Finland before 1999, the guaranteed interest rate is 4.5 per cent, which is also the statutory maximum discount rate of these policies. With respect to these policies, the maximum discount rate used when discounting technical provisions has been decreased to 3.5 per cent. As a result, technical provisions have been supplemented with EUR 71 million in 2012 (EUR 79 million in 2011). In addition, EUR 37 million has been reserved to lower the interest rate of with-profit liabilities to 2.5 per cent in 2013 and EUR 9 million for the year 2014 to lower the interest rate of with-profit liabilities to 3.25 per cent, i.e. Mandatum Life has set up an extra reserve of EUR 118 million as part of technical provisions.

The provisions related to each product type and guaranteed interest rates are shown in the table Analysis of the change in provisions before reinsurance, Mandatum Life, 2012. The table also shows the change in each category during 2012.

Analysis of the Change in Provisions Before Reinsurance
Mandatum Life, 2012
EURm

Liability
2011

PremiumsClaims
paid

Expense
charges

Guaran-
teed
interest

Bonuses

OtherLiability
2012
Share %
Mandatum Life parent company                  

Unit-linked total

2,937

780

-269

-44

0
295 3,699

47%

Individual pension insurance

753

87 -8 -13 0 0 74 894

11%

Individual life

1,095

247 -140 -12 0 0 110 1,301

16%

Capital redemption operations

823

379 -119 -14 0 0 73 1,140

14%

Group pension

266

68 -3 -6 0 0 37 364

5%

With-profit and others total

4,229

169

-422

-37

147 3 -37 4,052

51%

Group pension

2,494

76 -202 -9 82 3 -34 2,411

31%

Guaranteed rate 3.5%

2,404

64 -193 -8 80 3 -30 2,321

29%

Guaranteed rate 2.5% or 0.0%

90

12 -9 -1 2 0 -4 90

1%

Individual pension insurance

1,275

23 -145 -7 55 0 14 1,216

15%

Guaranteed rate 4.5%

1,075

15 -118 -5 48 0 0 1,015

13%

Guaranteed rate 3.5%

157

5 -18 -1 6 0 8 157

2%

Guaranteed rate 2.5% or 0.0%

43

3 -8  0 1 0 5 44

1%

Individual life insurance

298 33 -61 -10 10 -17 253 3% 
Guaranteed rate 4.5% 77 -9  -2 3 -3 72 1% 
Guaranteed rate 3.5% 158 11 -41 -4 5 -8 121 2% 
Guaranteed rate 2.5% or 0.0% 63 17 -11 -5 2  0 -5 61 1% 

Capital redemption operations

6

0 -1 0 0 0 -1 6

0%

Guaranteed rate 3.5% 0 0 0 0 0 0 0 0

0%

Guaranteed rate 2.5% or 0.0% 6 0 0 0 0 0 -1 6

0%

Future bonus reserves

0 0 0 0 0 0 0 0

0%

Reserve for decreased discount rate

108 0 0 0 0 0 10 118

1%

Assumed reinsurance

2 2

-1

0 0 0 -1 2

0%

Other liabilities

46 34

-13

-12 1 0 -9 47

1%

Mandatum Life parent company total

7,166

949 -691 -81 147 3 257 7,751

98%

Subsidiary Mandatum Life Insurance Baltic SE 137 33

-23

-3 1 0 8 153

2%

Unit-linked 117 30 -20 -2 0 0 9 134

2%

Others 19 3 -4 -1 1 0 -1 19

0%

Mandatum Life group total

7,303

983 -714 -84 148 3 266 7,904

100%

With-profit pension and saving policies have not been Mandatum Life’s new sales focus area for years and the trend is downward. During 2012, with-profit liabilities decreased by EUR 178 million, and the decline is expected to be at the same level for several years. Average guaranteed rate for policyholder’s savings, excluding the effect of discount rate reserve, is 3.7 per cent, which is gradually decreasing because policies with 4.5 per cent guarantees mature sooner than policies with lower guarantees. The trend of unit-linked technical provisions is upward, except in years like 2008 and 2011 when investment losses of unit-linked savings have exceeded the net subscriptions. Almost 50 per cent of technical provisions are unit-linked savings and their proportion is increasing.

The development of the structure and amount of Mandatum Life’s technical provisions is shown in the figure Development of with-profit and unit-linked technical provisions, Mandatum Life, 2004–2012.

 

Development of With-profit and Unit-linked Technical Provisions
Mandatum Life, 2004–2012

The table Expected maturity of insurance and investment contracts before reinsurance, Mandatum Life, 31 December 2012 shows the expected maturity and duration of insurance and investment contracts of Mandatum Life. The sensitivity of technical provisions to changes in discount rates can be assessed on the basis of the durations shown in the table.

Expected Maturity of Insurance and Investment Contracts Before Reinsurance 
Mandatum Life, 31 December 2012
EURmDuration2013-20142015-20162017-20212022-20262027-20312032-20362037-
Mandatum Life parent company
               

Unit-linked total

8.6

524

474

842

564 501

216

242

Individual pension insurance

11.0

46 83 193 162 124 84 97

Individual life

7.2

260 200 286 167 119 65 72

Capital redemption operations *)

7.7

200 160 282 165 206 33 31

Group pension

11.2

18 31 81 70 51 34 41

With-profit and others total

9.0

896

718

1,320

900 617 414

643

Group pension

10.5

389 358 771 599 440 317 512

Guaranteed rate 3.5%

10.6

373 346 751 584 429 309 498
Guaranteed rate 2.5% or 0.0%

9.7

15 12 20 15 11 8 13

Individual pension insurance

6.6

333 294 445 238 131 62 64

Guaranteed rate 4.5%

6.6

278 249 386 205 109 50 52

Guaranteed rate 3.5%

6.8

43 37 49 28 19 10 9
Guaranteed rate 2.5% or 0.0%

6.4

12 8 10 6 3 2 3

Individual life insurance

9.7

64 50 80 51 40 32 65
Guaranteed rate 4,5 %

10.0

16 18 25 16 12 11 21

Guaranteed rate 3.5%

10.2

24 23 39 26 20 16 30
Guaranteed rate 2.5% or 0.0%

8.4

24 9 15 10 7 5 14

Capital redemption operations *)

7.5

1 0 2 1 1 0 0
Guaranteed rate 3.5%

0.0

0 0 0 0 0 0 0

Guaranteed rate 2.5% or 0.0%

7.5 1 0 2 1 1 0 0

Future bonus reserves

1.0 0 0 0 0 0 0 0

Reserve for decreased discount rate

3.9

65 13 20 10 5 2 3

Assumed reinsurance

0.5

2

0

0 0 0 0 0

Other liabilities

0.9

42

3

2 0 0 0 0
Mandatum Life parent company total 8.8 1,419 1,192 2,162 1,464 1,118 630 885
Subsidiary Mandatum Life Insurance Baltic SE
15

12

35 21 20 16 33
Unit-linked   11 10 29 18 19 15 33
Others   4 2 7 3 1 1 0
Mandatum Life group total   1,434 1,204 2,197 1,485 1,138 646 918

 *) Investment contracts

Life Insurance Risk Management

Biometric risks are managed by careful risk selection, by pricing to reflect the risks and costs, by setting upper limits for the protection granted and by use of reinsurance.

Reinsurance is used to limit the amount of individual mortality and disability risks. The Board of Directors annually determines the maximum amount of risk to be retained on the company’s own account, which for Mandatum Life is EUR 1.5 million per insured. To mitigate the effects of possible catastrophes, Mandatum Life participates in the catastrophe reinsurance bought jointly by Finnish life insurance companies.

Risk selection is part of the day-to-day business routines in Mandatum Life. Mandatum Life’s Underwriting Policy sets principles for risk selection and limits for sums insured. Compliance with the principles and limits set in the Underwriting Policy are monitored continuously.

The risk result is followed actively and analyzed thoroughly annually. Mandatum Life measures the efficiency of risk selection and adequacy of tariffs by collecting information about the actual claims expenditure for each product line and each type of risk and comparing it to the claims expenditure assumed in insurance premiums of every risk cover.

Technical provisions are analyzed and the possible supplement needs are assessed regularly. Assumptions related to technical provisions are reviewed annually. Adequacy of technical provisions is tested quarterly. Tariffs for new policies are set and the underwriting policy and assumptions used in calculating technical provisions updated based on adequacy tests and risk result analysis. Tariffs and prices, as well as the reinsurance principles and reserving principles are reviewed and approved annually by the Board of Directors of Mandatum Life.