Equity-Based Insurance Guarantees Conference November 18-19, 2013 Atlanta, GA GAAP and Statutory Valuation of Variable Annuities Heather Remes
GAAP and Statutory Valuation of Variable Annuities Heather Remes, FSA, MAAA Allianz Life of North America EBIG Conference (Atlanta) November 18, 2013 (1315 1445 Hrs) 1
Basic Product Features & Rider Options 2 2 2
Basic Product Features Fixed account versus Separate Account Fixed account credited at fixed rate, invested in the General Account Separate Account credited based on performance of an equity index Mortality & Expense Charges Surrender Charges Rider Charges Partial Surrenders 3 3 3
Basic Rider Options Guaranteed Minimum Death Benefit ( GMDB ) Return of Premium, Roll-ups, Ratchets, Resets Guaranteed Minimum Income Benefit ( GMIB ) Guaranteed Minimum Accumulation Benefit ( GMAB) Guaranteed Minimum/Living Withdrawal Benefit ( GMWB/GLWB ) FIA/VA Combo Products 4 4 4
GAAP/IFRS Valuation 5 5 5
VA GAAP/IFRS Reserve Basics Account Value Policyholder Separate and General Account Values Embedded Derivative Fair Value reserve that covers the Guaranteed Minimum Accumulation Benefit (GMAB) and Guaranteed Minimum Withdrawal Benefit (GMAB) SOP 03-1 Reserve that covers Guaranteed Minimum Income Benefit (GMIB) and Guaranteed Minimum i Death Benefit (GMDB) DAC (incl DSI) Balances of Deferred Expenses that still need to be realized Hedging: Covers the change in economic value associated with equity and interest rate movements Materially consistent with IFRS with the exception of the SOP 03-1 reserve and volatility 6 6 6
SOP 03-1 Reserves Benefit realized when deferred contract ends (GMDB and GMIB) Reserve Overview Accrual based reserve which currently covers income and death benefits on Variable Annuities Some companies use a Fair Value reserve for GMDBs and GMIBs Based on real world expectations No interest rate sensitivity & limited equity sensitivity Expected claims and revenues replaced with actual experience in reserve calculation each month Reserves are floored at 0 Reserve Calculation Reserve(t) = Reserve(t-1) + Accrual(t) Claims(t) Reserve Projection starts at 0 and ends at 0 Accrual = Interest on reserves + Benefit Ratio * Revenue Benefit Ratio = Present Value of Claims / Present Value of Revenue Revenues include M&E Fees, Surrender Charges, Spread Income and Asset Based Fees Claims and revenues are projected using average of Real World stochastic scenarios 7 7 7
SOP 03-1 Reserves Example At inception Real World Assumed return 6.50% PV Claims $4,000.82 Average M&E fee 1.75% PV Revenue $9,935.09 Discount rate for Calculation 4.75% Benefit Ratio 40.27% Projection Detail Contract Year Claims Revenue Reserve Accrual GMDB Reserve 0 0 1 100 1500 604 504 2 200 1500 628 932 3 300 1500 648 1280 4 400 1500 665 1545 5 500 1500 677 1723 6 600 1500 686 1809 7 700 1500 690 1798 8 800 1000 488 1487 9 900 500 272 859 10 1000 250 141 0 GMDB Reserve = Reserve accrual Claims Reserve accrual = Revenue * Benefit ratio + Interest on prior period reserve Benefit Ratio = PV Claims/PV Revenue at issue Revenue includes M&E Fees, Spread Income, Mutual Fund Fee Revenue, etc. Claims are excess amount above Account Value released at death 8 8 8
SOP 03-1 Reserves Example Year 3 Real World Assumed return 6.50% PV Claims $3,449.58 Average M&E fee 1.75% PV Revenue $10,478.23 Discount rate for Calculation 4.75% Benefit Ratio 32.92% Projection Detail Contract Year Claims Revenue Reserve Accrual GMDB Reserve 0 0 1 55 1623 534 479 2 194 1599 549 834 3 306 1554 551 1080 4 300 1550 562 1341 5 400 1550 574 1515 6 500 1550 582 1598 7 600 1550 586 1584 8 700 1100 437 1321 9 800 550 244 765 10 900 300 135 0 Shaded area shows where actual experience has replaced model projections in reserve calculation Projection for remaining years is as of year 3 Benefit ratio changes as experience emerges 9 9 9
SOP 03-1 Reserves Benefit realized when deferred contract ends (GMDB and GMIB) DAC SOP reserve consistent with DAC mechanics EGP components projected using real world scenarios SOP Reserves & DAC both utilize real world claim progressions Projected changed in reserves offset by projected claims 10 10 10
FAS 133/157 Fair Value Reserves Reserves held for living benefits (GMWB and GMAB) Reserve Overview Fair Value based reserve which covers living benefits including withdrawal benefits and accumulation benefits Based on risk neutral expectations Sensitive to market movements (equity and interest rates) Reserves are not floored at zero, they can be negative 11 11 11
FAS 133/157 Fair Value Reserves Reserves held for living benefits (GMWB and GMAB) Reserve Calculation Reserve(t) = PV Future Benefits PV Attributable Fees Benefits and Account Value projected using average of Market Consistent stochastic scenarios Benefits and Account Value discounted using current risk free rate curve adjusted with a spread to reflect company risk Attributable Fees Calculated so that reserve is zero at issue, very dependent on interest rate environment at issue Based on Market Consistent scenarios Can be updated for changes in methodology or updates to policyholder behavior assumptions Not updated for changes in economic conditions Reviewed for appropriateness vs. M&E and Rider fees 12 12 12
FAS 133/157 Reserves Example At inception Reserve Calculation PV Claims 627.60 PV Fees 627.60 Reserve 0.00 Att Fee 6.74 Projection detail Contract Year Discount Claims Fees Reserve 0 1.000 142 0 1 0.979 128 142 2 0.892 115 267 3 0.783 200 101 369 4 0.689 120 88 292 5 0.604 180 74 270 6 0.520 130 61 206 7 0.443 150 47 170 8 0.384 160 34 124 9 0329 0.329 120 20 76 10 0.279 160 7 43 Fees = Attributable Fee * Rider Charges Reserve = PV Future Claims PV Future Fees Attributable Fee is solved for at contract inception so that initial FAS133 Reserve = 0 13 13 13
FAS 133/157 Reserves Example Contract Yr 6 Reserve Calculation PV Claims 570.17 PV Fees 216.02 Reserve 354.16 Att Fee 6.74 Projection Detail Contract Year Discount Claims Fees Reserve 6 1.000 150 74 354 7 0.979 100 61 278 8 0.892 170 47 240 9 0.783 130 34 130 10 0689 0.689 100 20 55 In later periods, claims and fees are updated to reflect new economic conditions Attributable Fee value does not change 14 14 14
Statutory Valuation 15 15 15
VA Statutory Reserve Basics Principles Based Reserves holding reserve balance in excess of Cash Surrender Value floor Reserves are determined as the maximum of stochastic and standard reserves If Hedging based on economic reserve movements, not well aligned with small AG43 reserve 16 16 16
AG43 Statutory Reserves Reserves held for all VA Benefits Reserve Overview Principles based reserve calculation, effective 12/31/2009 Stochastic reserve calculation based on real world expectations Standard/Deterministic reserve calculation based on prescribed assumptions Assumptions include PADs Reserve Calculation Two calculations Stochastic (1000 or more Interest Rate/Equity Scenarios) Interest rates generated using current treasury curve, potentially with mean reversion Equity returns selected from 10,000 available, do not vary from month to month Standard Scenario (Prescribed Assumptions) Interest rate is the Statutory Valuation Rate (by policy issue year) Equity returns are prescribed (13.5% immediate drop, 4% recovery) The greater of these is the effective reserve Current hedge positions reflected in reserve calculation, but no future hedge rebalancing unless Clearly Defined Hedging Strategy Representative assets projected across all stochastic scenarios and incorporated with liability cashflows 17 17 17
AG43 Statutory Reserves Reserves held for all VA Benefits Reserve Calculation Continued (Stochastic) Liability cashflows, asset cashflows and hedge payoffs are incorporated together to calculate projected accumlated surplus/deficiency (30 year projection) PV of greatest accumulated deficiency calculated for each scenario Worst 300 scenarios averaged Aggregate Stochastic Reserve Reserve Calculation Continued (Standard) Greatest accumulated deficiency calculated based on margins and assumed earned rate, no asset cashflows included Seriatim Standard Reserve Additional Considerations As Interest rates increase, Stochastic decreases and Standard can dominate Product Diversification within Stochastic reserves Clearly Defined Hedging Strategies Reserves in Excess of AG43 18 18 18
AG43 Statutory Reserves Reserves held for all VA Benefits Key Assumptions (Stochastic) Assumptions consistent with GAAP/IFRS reporting (Anticipated Experience) Additional prudent estimate margin added to certain assumptions Goal is a x% reserve increase, for conservatism Prudent margin assumptions could include Fund Fees, Lapse Rates and Maintenance Expenses (and others) Reviewed at least annually during Assumption Review/Unlocking process Key Assumptions (Standard) Prescribed assumptions, including guidance for mortality, lapse rate, etc. Not included in the Assumption Review/Unlocking process Hedging Reserves vs. Hedging not well aligned, hedged economically No interest rate sensitivity in Standard reserve calculation Reserves do not include future rebalancing of hedge positions 19 19 19
AG43 Stochastic Reserves Example Vl Valuation conducted tdunder At Actuarial ilgidli Guideline 43 (AG43) Time worst (year 1-30) Conditional Tail Expectation (CTE 70) of scenarios with the greatest accumulated deficiencies 1000 interest/equity scenarios calibrated from AAA 10,000 Assumptions updated with unlocking Consistent with capital calculation process (CTE 90 RBC, CTE 95 S&P) 20 20 20
AG43 Stochastic Reserves Example Cashflows Time steps Discount Liability Asset Hedge Rsv PV of Accum Deficiency 0 1.00 1 0.99 (110) 20 100 10 10 2 0.98 50 30 (70) 20 20 3 0.97 40 20 (60) 20 20 4 0.96 (130) 10 70 (29) (28) 5 0.95 (120) 20 130 0 0 Sample data for illustration purposes only Time worst accumulated deficiency in year 4 with a PV of 28 Rsv = Prior Rsv accumulated to current time + sum(liability, asset, hedge) PV of Accum Deficiency = Rsv discounted back to time zero 21 21 21
AG43 Standard Reserves Example Valuation conducted under AG43 Includes AG33 (CARVM) rsv Time worst (year 1-30) Greatest PV of benefit payments in excess of revenue generated less separately calculated hedge payoff One interest/equity scenario prescribed by AAA Specified returns (immediate drop, slow recovery) Prescribed assumptions 22 22 22
AG43 Standard Reserves Example Cashflows Time steps Discount Revenue Claims Pre-hedge Reserve 0 1 - - 1 0.99 90 (70) - 2 098 0.98 90 (130) (39) 3 0.97 80 (150) (68) 4 0.96 90 (10) - 5 0.95 90 (100) (10) Sample data for illustration purposes only The greatest PV of benefit payments in excess of revenue generated of 68 occurs in time 3 The hedge payoff is calculated as the time 1 discounted hedge cashflows less the time zero hedge positions market value. For this example we will use a hedge payoff of 20. The hedge payoff is subtracted from the time worst PV of benefit payments in excess of revenue generated resulting in a standard rsv of 48. 23 23 23
AG43 Standard Reserves Example Final Statutory Reserve: CSV 1000 Excess Rsv (Max of stochastic (28), standard (48), or zero) 48 Statutory Rsv 1048 24 24 24