Session 18, Non-Variable Annuity PBR Update. Moderator: John R Miller FSA, MAAA. Presenters: Corinne R Jacobson FSA, MAAA Michael C Ward FSA, MAAA

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1 Session 18, Non-Variable Annuity PBR Update Moderator: John R Miller FSA, MAAA Presenters: Corinne R Jacobson FSA, MAAA Michael C Ward FSA, MAAA

2 18PD Non-Variable Annuity PBR Update John Miller, FSA, MAAA American Equity Mike Ward, FSA, MAAA Life of the Southwest Corinne Jacobson, FSA, MAAA Midland National Life

3 Observations, Views & Opinions The views and opinions expressed in this presentation are those of the presenters. They do not represent the views and opinions of: The Society of Actuaries; The American Academy of Actuaries; The NAIC or Life Actuarial Task Force (LATF); The ACLI; Or the presenters respective employers.

4 Topics to be addressed John: ARWG direction / progress LATF update Mike: Modeled Reserve - the RSM Aggregate Margin Corinne: The Minimum Reserve, Floor Reserve, Listed Benefits VM-22 Drafting subgroup

5 18PD Non-Variable Annuity PBR Update John Miller, FSA, MAAA American Equity Investment Life Insurance Company Co-chair, Annuity Reserve Work Group of the American Academy of Actuaries

6 ARWG: History Report to LATF, March 2012 SOA survey results ARWG volunteered to assist in the development of a principle-based approach to the valuation of nonvariable annuities LATF accepted

7 ARWG: Direction ARWG Chicago meeting, May 2013: VM-22 plan Not an annuity version of VM-20 Like the VM-21 (AG 43) framework: two parts A deterministic floor reserve ( CARVM-like ) A modeled reserve (model office projections) Consideration of a new approach - RSM KS insurance department volunteers for a field test

8 ARWG: Direction / Goals Report to LATF, August 2013: Update on a Potential VM-22 Reserve Methodology Goal: to propose a sound principle-based reserve standard for non-variable annuities incorporating: A formulaic floor reserve that uses CARVM like methods to determine a minimum reserve (not the primary reserve) May reflect lapses & utilization rates other than 0% or 100% for elective benefits An auditable modeled reserve reflecting key product risks Handles today s complex product designs

9 ARWG: Direction / Goals Reserves are right sized Floor reserve does not overwhelm the modeled Vx Expands on elements found in AG 33, but less conservative Satisfies requirements for treatment as the Tax Reserve Modeled Vx based upon on small set of scenarios More manageable run times Key risks modeled stochastically - possibly RSM? Aggregate margin transparent margins

10 ARWG: VM-22 Scope Non-Variable individual & group annuities Deferred annuities (e.g., fixed, indexed, two-tiered, CD type, MVAs, Modified Guaranteed) Payout annuities (e.g., DIAs, SPIAs, Structured settlements, Charitable annuities) Deposit fund products (e.g., GICs, Synthetic GICs, Funding agreements, Terminated pension plans)

11 ARWG: Kansas Field Test Directed by Kansas Test the practicality of using the RSM for the Modeled Reserve Compare results using AG 33, AG 43 standard scenario, AG 43 stochastic reserve, proposed VM-22 methodology (Floor and Modeled Reserve) Two volunteer companies 5 different plans Final report currently under review by the ARWG

12 ARWG: What s next? Complete the review of the KS field test Modify floor reserve parameters, as warranted Develop a position on the practicality of RSM Additional RSM testing payout annuities Continue coordination with LATF

13 LATF: August 2015 NAIC: LATF meeting, August 2015 LATF perspective on RSM Consideration of modifications to CARVM (AG33) Review of valuation interest rate methodology

14 AAA: SVL Interest Rate Modernization WG The LATF VM-22 subgroup has asked the Academy to review the current methodology for determining valuation interest rates Items of specific interest Fixed payout annuities including large pension transfer cases Is the current formula floor of 3% still appropriate? A review of other possible data sources

15 ACLI: Fixed Annuity Reserves WG ACLI workgroup monitoring VM-22 developments PBR comment letter CARVM enhancements asked by the LATF VM-22 subgroup to study modifications to the current formulaic approach Valuation Interest Rate Modernization comments and ideas shared with AAA Work Group Contacts: John Bruins (ACLI) or Mike Streck (Principal)

16 ARWG: presentations & reports Report pdf 12.pdf 22_Presentation_to_LATF_ pdf 22_Methodology_Report_ pdf 22_Methodology_Update_ %20%282%29.pdf _ pdf

17 18PD Non-Variable Annuity PBR Update Michael Ward, MAAA, FSA Member, Annuity Reserve Work Group of the American Academy of Actuaries

18 The Modeled Reserve Reprise: Where does the Modeled Reserve Fit? Minimum Reserve = A + B where A = Floor Reserve Amount = Σ k Floor Reserve contract k and B B = A + max {0, Modeled Reserve A} A

19 Representative Scenarios Method Description of the Approach: Generalized, Multi-Risk Model separated into Model Segments Blocks of business with similar risk profiles for both liabilities & assets Each Model Segment reflects its Key Risk Drivers Modeled Reserve Reserve as if all KRDs were modeled stochastically But more practical to calculate & easier to audit

20 Reserve Paradigm Modeled Reserve = Current Estimate Reserve + Aggregate Margin Reserve

21 Actuarial Professionalism Mandatory Expertise & Professionalism of the Actuary is Crucial in Identification of KRDs for each Model Segment Quantification of Current Estimate Assumptions Quantification of Probability Distribution Points for the KRDs

22 Current Estimate Reserve Seven Steps to Determining the Current Estimate Reserve 1. Identify Model Segments 2. Identify Current Estimate Assumptions 3. Identify KRDs 4. Generate 5 Representative Scenarios for each Model Segment: Anticipated +/- 1 σ +/- 3 σ 5. Determine cash flows for each scenario for each Model Segment 6. Aggregate the Scenario Reserves using KRD probabilities 7. Aggregate the KRD Reserves

23 The Aggregate Reserve Margin The ARM uses the Cost of Capital Approach 1. Determine KRD Total Capital Amount for each Key Risk/Model Segment/year: For each KRD: the XS of greatest scenario reserve over the central estimate Add capital across all KRDs using RBC-style formula to reflect non-correlation 2. Identify Spread Over Treasuries = CoC risk-free rate 3. Identify FIT factor, i.e., 35% 4. Calculate COC factor: SOT CoCf = 1 - FITf 6% now 5. ARM for a Model Segment = Sum of (PV for each yr s TCA) x CoCF 6. ARM = Sum over all Model Segments of ARM for those Model Segments

24 Test of Adequacy of Aggregate Margin Such a test is required. The Actuary shall: 1. Identify the higher Scenario Reserve for the 1-Std Dev Scenario for each KRD 2. Calculate the excess of Current Estimate Reserve over a. 3. Calculate the Alternative Modeled Reserve = CER plus b. less Covariance Adjustment 4. If AMR > 1.02 x (CER + AMR), then Modeled Reserve = AMR 5. Else, Modeled Reserve = (CER + AMR)

25 Material Risks Not Modeled If the Actuary cannot reflect a material risk properly, then the Actuary shall make the following adjustments: a. Estimate the financial impact of the omitted risk; adjust the CER to reflect the impact b. Determine the degree of uncertainty in the estimate in a.; adjust the ARM for the uncertainty c. Modeled Reserve recalculated to reflect adjustments in a. & b.

26 18PD Non-Variable Annuity PBR Update Corinne Jacobson, FSA, MAAA Member, Annuity Reserve Work Group of the American Academy of Actuaries Chairperson, VM-22 Drafting Subgroup

27 CAUTION! VM-22 is a work in progress!

28 Minimum Reserve Minimum Reserve = Floor Reserve Amount + max {0, Modeled Reserve Floor Reserve Amount} where Floor Reserve Amount = Σ k Floor Reserve contract k and Floor Reserve contract k = max {FR1, FR2, FR3} FR1

29 Floor Reserve Serves as a yardstick with which to establish a reasonable floor for the Minimum Reserve Serves as a possible model for the computation of tax reserves Not necessary that the Floor Reserve be an adequate reserve for each contract valued Not designed to reflect the differences in product design to the same degree as the Modeled Reserve

30 Listed Benefit Term that applies to certain elective benefits Examples may ultimately include Guaranteed Lifetime Income Benefits (GLIBs) Annuitization within the annuitization tier of a two-tiered annuity Start GLIB payments? Annuitize?

31 Floor Reserve 1 (FR1) Recall: Floor Reserve contract k = max {FR1, FR2, FR3} FR1 = normal CARVM with a couple of differences Assume Listed Benefits are terminated as of the valuation date Possibly use prescribed lapse rates adjusted for In-the- Moneyness (ITM-ness) of rich non-listed benefits, such as significant GMDBs

32 Floor Reserve 2 (FR2) Recall: CARVM = GPV{ all Integrated Benefit Streams} FR2 considers one Integrated Benefit Stream for each Listed Benefit Calculation Rules Each Listed Benefit is assumed to be elected eventually (unless death occurs first) (i.e., no elective benefits in FR2) Each Listed Benefit is assumed to be elected according to a corresponding Listed Benefit Utilization Function (LBUF) If a single contract has multiple Listed Benefits, FR2 k shall be calculated for each Listed Benefit k (for k = 1 to n) ignoring all other Listed Benefits. Then FR2 = max {FR 1, FR 2,, FR n }

33 GLIB Single vs. Joint Life Withdrawals Many GLIBs offer single and joint life withdrawals Unlike payout annuity income factors, GLIB factors are not likely to be actuarially equivalent EX: male and female income factors are the same EX: joint life GLIB payout rate is 50 bps lower than corresponding single life payout rate. In some instances, it is more advantageous to take joint withdrawals from GLIB Some companies ignore joint life withdrawals in current CARVM calculations FR2 will address this issue via the Listed Benefit Utilization Functions that will be developed

34 Floor Reserve 3 (FR3) FR3 is based on the amount available for the contractholder to withdraw from the contract as of the statement date

35 VM-22 Drafting Subgroup Activity

36 Questions?

37 What Can I Do to Help? If you wish to become involved in the ARWG, contact Scot Davies at davies@actuary.org