Life underwriting risk

Life insurance provisions: financial guarantee | Life embedded value sensitivities: Underwriting Risks | Gross direct premiums by line of business and by geographical area

Life underwriting risks include biometric risks arising from events related to mortality and mortality trends, to morbidity, disability and longevity, as well as risks related to trends in lapses and expenses related to contracts in place.

The Group companies life portfolios have a prevailing component of saving contracts, but there are also pure risk covers (death plus riders, such as accident, disability, dread disease, etc.) and some annuity portfolios, with the presence of the longevity risk.

The risks related to policies with a prevailing saving component and with minimum interest rate guarantee are adequately measured in a prudent way in the pricing process in accordance with the particular situation of the local financial markets, and taking also into account any relevant regulatory constraint.

In order to better manage risks and costs associated with embedded options included in the above products, the Group is continuing to pursue the policy, already undertaken in previous years, of redefining the structure of related financial guarantees.

In this perspective the structure of the product has been redefined, connecting in many cases the level and the recognition of guarantees with the length of staying inside the contract.

The table below shows the distribution of insurance provisions of life gross direct business by level of financial guarantee.

Life insurance provisions: financial guarantee
  Gross direct insurance
(€ milion) 31.12.2012 31.12.2011
Liabilities with guaranteed interest(*)
237,274 234,605
between 0% and 1% 49,439 43,828
between 1% and 3% 98,822 94,078
between 3% and 4% 53,909 56,729
between 4% and 5% 31,365 36,716
more than 5 % 3,737 3,253
Provisions without guaranteed interest 55,113 60,376
Provisions matched by specific assets 7,556 8,152
Total 299,943 303,134

(*)The upper bound of each range is excluded

The total insurance provisions include the gross direct amount of mathematical provisions, which amount to € 231,673 million (€ 231,588 million at 31 December 2011), the provisions for policies where the investment risk is borne by the policyholders and for pension fund, which amount to € 41,048 million (€ 46,804 million at 31 December 2011), the ageing provision for life segment, which amount to € 9,627 million (€ 9,073 million at 31 December 2011), and financial liabilities related to investment contacts, which amount to € 17,597 million (€ 15,670 million at 31 December 2011).

Year end 2011 figures included technical provisions and investment contracts financial liabilities belonging to Migdal Group, that were mainly recorded as provisions without guaranteed interest and, for a residual amount, as liabilities with guaranteed interest between 3% and 5%.

The insurance provisions above are grouped in three macro classes:

  • contracts with a minimum guarantee level: this group considers both yearly cliquet and at event (death and maturity) guarantees;
  • contracts without interest guarantee: in this category, together with standard unit linked policies are also included contract whose benefits and premiums can be adjusted by Companies in order to mitigate interest rate risk. With regard to this second class of contracts, comparative information have been consistently restated;
  • contracts matched by specific assets: this category includes contracts where the liabilities are totally matched by specific assets.

The table above shows a progressive shift of the exposures towards ‘less than 3%’ guarantee classes, also due to the new business. It also shows a slight increase of ‘in addition to 5%’ class related to the portfolio management of extra-European Group companies where the nominal rates are higher than those in the Eurozone. Lastly, the amount of provisions without guaranteed interest showed an increase amounting to € 55,113 million (€ 60,337 million as at 31 December 2011) due to the disposal of Migdal group. On equivalent consolidation area these provisions would increase.

From a quantitative point of view regarding the life underwriting risk and according to the parameters indicated by the CFO Forum, the Group performs the following Embedded Value sensitivities:

  • maintenance expenses -10%: sensitivity to a 10% decrease of maintenance expenses;
  • lapse rate -10%: sensitivity to a 10% decrease of lapse rates;
  • mortality/morbidity for risk business -5%: sensitivity to a 5% decrease of mortality/morbidity for all product lines except annuities (e.g. term assurance, whole life, annuity during the accumulation period);
  • mortality for annuity business -5%: sensitivity to a 5% decrease of mortality for annuity business only (e.g. annuities in payment).up.png

Life embedded value sensitivities: Underwriting Risks
(%) 31.12.2012 31.12.2011
Expenses -10% 2.9 3.3
Lapse rate -10% 2.3 3.4
Mortality -5% 3.1 3.2
Annuity Mortality -5% -1.2 -1.3

The table above shows that the reduction of expenses and mortality rates (except for annuities) has a positive effect in the value; on the contrary, as expected, for the annuities, a reduction in mortality rates leads to a corresponding decrease in value.

Regarding lapse, a decrease in surrender assumptions could produce both positive and negative effect in the Embedded Value, depending on the portfolio structure and on the economic contingencies. In particular the magnitude of variances depends on the alignment of some variables such as return of the fund, level of guarantee and structure of surrender penalties. Like the previous year, the offsetting effects of these factors result at Group level in an increase in the Embedded Value when the lapse rates decrease.

In addition to the quantitative analyses above presented, the qualitative aspects relating to underwriting process and operative risk management are carefully assessed.

As far as the demographic risk related to pure risk portfolios is concerned, the mortality tables used in the pricing include prudential margins. The standard approach is to use population or experience tables with adequate safety loadings. For the most important risk portfolios ad hoc reviews of mortality experience is performed every year in comparison with the expected mortality of the portfolio, determined according to the most up-to-date mortality tables available in each market. This analysis takes into consideration the mortality by sex, age, policy year, sum assured and other underwriting criteria.

There is a particular emphasis, both at local and central level, in the underwriting of the new contracts, that considers both the medical and the financial and moral aspects. A Group standard for manuals, forms and medical and financial underwriting requirements has been established, both for death covers and for riders. Underwriting autonomy levels for companies are determined depending on their structure and their portfolio, while above the autonomy each risk is examined also by either the Underwriting Department of Corporate Centre (which is the main reinsurer for many Group companies) or by a local professional reinsurer.

As far as riders are concerned, which are mostly exposed to moral risks, maximum insurability levels by country and company are set, lower than those applied for death covers; at the same time, in order to mitigate these risks, consistent policy conditions are established, especially for what refers to policy exclusions.

The Companies must apply the underwriting guidelines and operating limits defined by the Corporate Centre which also defines the standard process to request dispensations in order to maintain the risk exposure between the set up limits and to ensure a coherent use of the capital.

In order to mitigate mortality and morbidity risk, another feature is reinsurance. As far as the surplus (proportional) reinsurance is concerned, Head Office acts very often as the main reinsurer for its subsidiaries, then ceding to the reinsurance market the portions of individual risks exceeding its own retention. Sometimes reinsurance is made directly by the company to the local reinsurance market, with Corporate Centre’s support and agreement. As far as the catastrophe risk is concerned, it is related to geographical concentrations, which are typical of group insurance, and it is covered acquiring, at a central or local level, ad hoc non proportional covers, and sometimes diversifying the risk, for instance adopting adequate underwriting policies.

The longevity risk, notwithstanding its minor weight in the life business of the Group, is constantly monitored. For the most important portfolios of annuities in course of payment, there is an annual evaluation for the adequacy of the technical bases, that considers the demographic component but also the financial component related to the minimum interest rate guarantee and any mismatch between the liabilities and the corresponding assets.

As far as new business is concerned, in each country demographic assumptions reflecting future mortality trends are used, while for group contracts, if possible, mortality adjustments clauses are considered. For policies which foresee an accumulation phase and at maturity an annuity conversion option for the lump sum, no guarantee is normally allowed on the technical basis for the determination of the annuity to be paid in the future; if, however, this is guaranteed, particularly in cases of collective agreements, contractual mechanisms for adjusting the basis of mortality compared with some variations in mortality effective population are often introduced.

As far as lapse risk (risks related to voluntary withdrawal from the contract) and expense risk (risks related to inadequacy of charges and loadings in the premiums in order to cover future expenses) are concerned, they are evaluated in a prudential manner in the pricing of new products, considering in the construction and the profit testing of a new tariff assumptions derived from the experience of the company. Should this not be sufficiently reliable or suitable, the experience of the other Group entities of the same country or the general experiences of the local market are applied. In order to mitigate lapse risk, surrender penalties are generally considered in the tariff and are determined in such a way to compensate, at least partially, the loss of future profits.

For all risk categories, in the annual Embedded Value analysis, locally and centrally, there are two levels of control, both ex-ante and ex-post.

Aggregate analysis have been made on the best estimate of the risk factors in order to assess the congruence of the assumptions and to update them; at the same time it has been assessed the coherence of the assumptions made and the actual experience of the year valuating, risk by risk, the changes in the portfolio values.

The tables below show the concentration of gross direct premiums of life segment, including investment contracts, by line of business and by geographical area.up.png

Gross direct premiums by line of business and by geographical area
(€ milion)
Savings and Pension Protection Unit/index linkedTotal
Italy 11,623 222 514 12,360
France 6,564 1,744 912 9,221
Germany 6,908 4,102 3,297 14,309
Central and Eastern Europe 1,018 244 427 1,690
Rest of Europe 2,338 823 2,638 5,800
Spain 988 185 9 1,182
Austria 189 133 833 1,156
Switzerland 626 247 251 1,126
Other Europe
533 256 1,544 2,334
Rest of World 1,191 631 53 1,875
Total 29,645 7,768 7,844 45,257

(€ milion)
Savings and Pension Protection Unit/index linked Total
Italy 11,512 207 603 12,323
France 6,160 1,374 1,259 8,795
Germany 6,033 4,060 3,439 13,533
Central and Eastern Europe 1,008 223 445 1,677
Rest of Europe 2,217 739 2,601 5,558
Spain 850 187 13 1,051
Austria 168 114 818 1,101
Switzerland 659 241 276 1,176
Other Europe 538 196 1,493 2,228
Rest of World 1,204 518 1,391 3,114
Total 28,137 7,124 9,740 45,001

The table above shows the major importance of savings and protection contracts (65.5% of the total), while the unit/index linked portfolio accounts for 17.3% of the total written premiums. Concerning the health business, the Group has a strong presence in markets such as Germany and Austria where operate companies dedicated to this segment; while in all the other geographical areas health premiums refers to life insurance rider covers.

With reference to the distribution by geographical area, the Group, in the life and health market, is present in various countries with a relative stability in term of written premiums. However it is worth noting that the 95.9% of the total written life and health premiums refers to the European market.up.png