Friday, June 05, 2009

Actuaries 101

So it occurs to me that, in my last post, I left one important question unanswered: what, in fact, is an actuary? What do they do, and why is it considered a remotely sensible use of time?

Actuarial science is best considered as forward-looking accounting. Traditional accountants look at what has happened in the past and try to figure out whether a company is broke or not. Actuaries look at what is likely to happen in the future and try to figure out whether a company will survive it all...

An example. Let's say that you send a ship to India to pick up some tea. You want to be sure that you don't go broke if the ship sinks. So you buy an insurance policy.

The company who sells you the policy has a dilemma: how much do they charge? If they charge too little for their policies then, in the long run, too many ships will sink and they'll go bust. If they charge too much, their competitors will steal all their trade. By this point, their stockholders are probably breathing down their neck for proof that the company is doing the right thing.

How do they handle this situation? They ask an actuary. The actuary will look through the mathematical literature on ship failures, consider the specific situation, and propose an actuarial model: a set of formulae that will put a price on that policy. The model may handle a number of factors - expected weather conditions at this time of year, age of ship, amount of maintenance done, even the professional opinion of engineers paid to examine the ship. The goal is to calculate a figure that will keep the company's "risk of ruin" - their chance of going bankrupt - below a certain level.

The three main areas of actuarial work are:

1) General insurance - dealing with the risk of expensive stuff breaking
2) Life insurance/assurance - dealing with the risk of people breaking
3) Pensions - dealing with the risk of people staying alive long after they've stopped earning

I mainly work in pensions, where the problem we deal with is that we don't know when someone will die. There are two different approaches to dealing with this:

1) Defined contribution schemes. These schemes hold a specified investment portfolio for each policyholder (PH), normally linked to the amount of money that the PH has fed into the scheme over the years. If, ten years down the line, all the scheme's investments fail, the PH just doesn't get much money. The hard part, then, is projecting the policy's value at date of redemption.

2) Defined benefit schemes. These set out in advance, according to some horrible messy formula, precisely how much money a pensioner will get. The hard part, then, is figuring out the amount of money the scheme needs to have right now in order to pay for all this. This is called scheme valuation and it is the subject of much actuarial thought, and of the heavy-duty actuarial software described in the last post.

In general, companies don't like DB schemes because, if the scheme's portfolio fails, the company has to carry the can. This is hard to allow for unless you have an unlimited source of money. So companies prefer DC schemes.

By contrast, governments are perfectly happy with DB schemes. After all, if the scheme needs more money, they'll just raise taxes. And having a deterministic formula for benefits makes negotiation with unions easier. In the UK, I suspect that this rather blasé attitude is likely to backfire at some point when the public realises how good the benefits are in the public sector...

1 comment:

Newachima abelard said...

My life is beautiful because of you Mein Helfer.Lord jesus into my life as a candlelight in the dark. You showed me the meaning of faith with your words. I know even when i cried all day thinking how to get well you weren’t sleeping you were dear for me.I contacted Dr Itua herbal center lived in west Africa. A friend of mine here in Hamburg she’s from Africa too,She told me about Africa herbs but was nervous about it.I’m really scared when it come to African because i heard allot of fiend things about them due to my christianity I pray to god for direction,I takeathe bold step and contact him on email then move to whatsapp he ask if I can come oAver for the treatment or want a delivery,I said i want to meet him I buy 2ways ticke down to Africa to meet Dr Itua,I went there and i was speechless Of people I saw there.Patent,Sick people.Dr Itua is a god sent to the world,I told my Pastor about what am into,Pastor Bill Scheer We have a wonderfully Real Battle With Spirit And Flesh.worship that same night,He pray for me and ask me to lead,I spent 2weeks and 2days in Africa in Dr Itua Herbal Home,After the treatment He ask me to meet his nurse for hiv test when i did it was negative,I quitely ask my friend to take me to other nearby hospital when i got there it’s was negative.I was overwhelm with the result,But happy inside me.We went to Dr Itua,I thank him but I explain to him I don’t have enough to show my aprecaition he understand my situation but promise him to testify the good work of his.I thank god for my dear friend,Emma I know she might be reading this right now,I want to say thank you.And a big thanks to Dr Itua Herbal Center.He Gave me his calendar which I place on my wall in my house.Dr Itua Can As Well Cure The Following Desease…Cancer,Hiv,Herpes, Hepatitis B,Liver Inflammatory,Diabetis,You can contact him on email or whatsapp,@..drituaherbalcenter@gmail.com,phone number..+2348149277967..He’s nice Doc,Talk to him nicely.I’m sure he will listen to you as well.