Fair Valuation and Risk Assessment of Dynamic Hybrid Products in Life Insurance: A Portfolio Consideration

Abstract

Dynamic hybrid products are innovative life insurance products particularly offered in the German market and intended to meet new consumer needs regarding stability and upside potential. These products are characterised by a periodical rebalancing process between the policy reserves (i.e. the premium reserve stock), a guarantee fund and an equity fund. The policy reserve thereby corresponds to the one also valid for traditional participating life insurance products. Hence, funds of dynamic hybrids that are allocated to the policy reserves in times of adverse capital market environments earn the same policy interest rate determined for the participating life insurance policyholders and, hence, at least a guaranteed interest rate. In this paper, we study the fair valuation and risk situation of an insurer offering both dynamic hybrid and traditional participating life insurance contracts. The results reveal considerable interaction effects between the two contract types within the portfolio that strongly depend on the portfolio composition, thereby emphasising merits as well as risks associated with offering dynamic hybrids.

Fair evaluation of life insurance policies with periodic rebalancing between asset portfolios and interest rate guarantee

“…As it is obvious, the presence of the surrender option makes the policy more valuable and induces an increment of the corresponding fee. 2 In Figure 3, we illustrate how the low volatility influences the fair policy fee when the high volatility is kept fixed at level σ H = 0.3. We have considered a maturity T = 4 years, a target date τ = T /2, and a target interest rate i g = 3.5% per annum.…”

“…Hybrid products are said to be static when the allocation of premiums between the conventional premium reserve stock and the risky fund is established at the contract inception and it is not modified during the policy lifetime, whereas hybrid products are called dynamic when the asset allocation is changed periodically in order to meet the guarantees. Kochanski and Karnarski [7] developed a partial internal model to assess the solvency capital requirement for hybrid products while Bonhert and Gatzert [2] analyzed the impact of dynamic hybrid products on the fair valuation and risk assessment of an insurer with a portfolio consisting of traditional participating life insurance contracts and dynamic hybrid products. In both cases all the evaluations are conducted by using Monte Carlo simulations.…”

Dealing with Low Interest Rates in Life Insurance: An Analysis of Additional Reserves in the German Life Insurance Industry

“…We followed Bohnert and Gatzert (2014) and considered a German life insurer with the simplified balance sheet at time t, given in Table 1. Table 1.…”

Dynamic Hybrids Under Solvency Ii: Risk Analysis and Modification Possibilities

“…Kochanski and Karnarski (2011) developed the first models on dynamic and static hybrids with a partial internal model to assess the corresponding solvency capital requirement (SCR). Bohnert and Gatzert (2013) contributed the fair valuation and risk assessment of an insurer offering dynamic hybrid and traditional participating life insurance contracts with focus on the risk situation of the insurer and the NPV (net present value) of the policyholder. Bohnert (2013) analyzed the characteristics and contract variations of dynamic hybrid products in the German market.…”