Tài liệu Thị trường tài chính và các định chế tài chính _ Chapter 25 pdf

1
Chapter 25
Insurance and Pension Fund
Operations
Financial Markets and Institutions, 7e, Jeff Madura
Copyright ©2006 by South-Western, a division of Thomson Learning. All rights reserved.
2
Chapter Outline

Background

Life insurance operations

Property and casualty insurance operations

Health care insurance operations

Business insurance

Regulation of insurance companies

Exposure to risk

Valuation of an insurance company

Performance evaluation
3
Chapter Outline (cont’d)

Interaction with other financial institutions


Participation in financial markets

Multinational insurance companies

Background on pension funds

Pension regulations

Pension fund management

Performance of pension funds

Pension fund participation in financial markets

Participation in financial markets
4
Background

Insurance companies:

Provide various form of insurance and investment services to
individuals

Charge a fee (premium) for the services

Provide a payment to the insured (or a named beneficiary)
under conditions specified by the insurance policy contract

Help individuals or firms to reduce the potential financial

damage due to specified conditions

Common types of insurance are life insurance, property
and casualty insurance, health insurance, and business
insurance
5
Background (cont’d)

Individuals who are more exposed to specific conditions
that cause financial damage will purchase insurance
against those conditions

Adverse selection problem

Insurance can cause the insured to take more risks
because they are protected

Moral hazard problem

Underwriters are employed by insurance companies to
calculate the risk of specific insurance policies

Decide what types of policies to offer based on the potential
level of claims and the premiums that they could charge
6
Background (cont’d)

Determinants of insurance premiums

The premium is based on:


The probability of the condition under which the company
will need to provide payment

The potential size of the payment in present value terms

The degree of competition in the industry for that type of
insurance

Overhead expenses and insurance company profit

Whether the policy is for an individual or a group
7
Background (cont’d)

Investments by insurance companies

Insurance companies invest premiums and fees until
the funds are needed to pay claims

Investment decisions balance the goals of return,
liquidity, and risk

Those insurance companies whose claims are less
predictable need to maintain more liquidity
8
Life Insurance Operations

Life insurance companies:


Are a dominant force in the industry

Generate more than $100 billion in premiums each year

Compensate the beneficiary of a policy upon the policyholder’s
death

Charge a premium that reflects the probability of making a
payment as well as the size and timing of the payment

Have historically forecasted with reasonable accuracy the
benefits they will have to provide

Use actuarial tables and mortality figures to forecast the
percentage of policies that will require compensation
9
Life Insurance Operations (cont’d)

Group plans:

Are offered to employees of a corporation

Can be distributed at a low cost because of high
volume

Make up about 40 percent of total life coverage
10
Life Insurance Operations (cont’d)

There are about 2,000 life insurance companies


Companies are classified as either stock or
mutual ownership

A stock-owned company is owned by shareholders

A mutual company is owned by the policyholders

About 95 percent of companies are stock-owned

Mutual companies are large and account for more
than 46 percent of total assets of all life insurance
companies
11
Life Insurance Operations (cont’d)

Types of life insurance

Whole life insurance:

Protects policyholders until death or as long as premiums are paid

Builds a cash value that the policyholder is entitled to even if the
policy is canceled

Generates periodic premiums for the life insurance company that
can be invested

Typically provides a fixed amount of benefits


Term insurance:

Is temporary, providing insurance only over a specified term

Does not build a cash value

Is significantly less expensive than whole life insurance

Includes decreasing term insurance, where benefits decrease over
time
12
Life Insurance Operations (cont’d)

Types of life insurance (cont’d)

Variable life insurance:

Provides benefits that vary with the assets backing the
policy

Includes flexible-premium variable life insurance, providing
flexibility on the size and timing of payments

Universal life insurance:

Combines the features of term and whole life insurance

Specifies a period of time over which the policy will exist but
also builds a cash value


Allows flexibility on the size and timing of the premiums
13
Life Insurance Operations (cont’d)

Sources of funds

The most important source is annuity plans

Offer a predetermined amount of retirement income to
individuals

The second largest source of funds is premiums

The third largest source of funds is investment income
14
Life Insurance Operations (cont’d)

Uses of funds

Life insurance companies are major institutional investors

Government securities

Life insurance companies invest in U.S. Treasury securities, state
and local government bonds, and foreign bonds

Corporate securities

Corporate bonds are the most popular asset of life insurance
companies


Some focus on high-grade bonds, others invest a portion in junk bonds

Life insurance companies expect to maintain some bonds until
maturity

Corporate stock is another use of funds, but significantly less than
bonds
15
Life Insurance Operations (cont’d)

Uses of funds (cont’d)

Mortgages

Life insurance companies hold all types of mortgages:

One to four family, multifamily, commercial, and farm related

Mortgages are typically originated by another institution and then
sold to life insurance companies in the secondary market

Commercial mortgages make up more than 90 percent of total
mortgages held by life insurance companies

Real estate

Life insurance companies sometimes purchase real estate and
lease it out for commercial purposes


Real estate generates higher returns but also exposes life
insurance companies to higher risk
16
Life Insurance Operations (cont’d)

Uses of funds (cont’d)

Policy loans

Life insurance companies lend funds to whole life
policyholders

Can borrow up to their policy’s cash value at a guaranteed rate
of interest

Capital

Insurance companies retain earnings or issue new stock

Capital is used to finance investment in fixed assets and as
a cushion against operating losses

Insurance companies are required to maintain adequate
capital
17
Life Insurance Operations (cont’d)

Asset management of life insurance companies

Life insurance companies’ performance can be significantly

affected by asset portfolio management

Companies attempt to balance their portfolios so that any
adverse movements in the market value of some assets will be
offset by favorable movements in others

Many companies are diversifying into other businesses by
offering a wide variety of financial products

Overall, life insurance companies want to earn a reasonable
return while maintaining their risk at a tolerable level
18
Property and Casualty Insurance
Operations

PC insurance protects against fire, theft, liability,
and other events that result in damage

Property insurance protects businesses and
individuals from the impact of financial risks
associated with the ownership of property

e.g., buildings, cars

Casualty insurance protects policyholders from
potential liabilities for harm to others as a result of
product failure or accidents
19
Property and Casualty Insurance
Operations (cont’d)


There are about 3,800 individual PC companies

The largest are State Farm, Allstate, Farmers Insurance, and
Nationwide Insurance

No single company controls more than 10 percent of the
market

The PC insurance business is only about one-fourth the
life insurance business in aggregate

The PC insurance business generates about the same
amount of insurance premiums as the life insurance
business

Many companies are offering both life and PC insurance
20
Property and Casualty Insurance
Operations (cont’d)

PC insurance characteristics:

Policies are for one year or less

Encompasses a wide variety of activities from auto
insurance to business liability insurance

Forecasting the amount of future compensation is
more difficult for PC insurance than for life insurance

21
Property and Casualty Insurance
Operations (cont’d)

Cash flow underwriting

As interest rates decline, the price of insurance rises to offset
decreased investment income

Cash flow underwriting can backfire for companies that focus on
what they can earn in the short run and ignore what they will
pay out later

Uses of funds

Municipal bonds dominate, followed by Treasury bonds and
common stock

PC companies have a much higher concentration on
government bonds than life insurance companies
22
Property and Casualty Insurance
Operations (cont’d)

Property and casualty reinsurance:

Effectively allocates a portion of insurance companies’ return
and risk to other insurance companies

Is similar to a commercial bank’s acting as a lending agent by

allowing other banks to participate in the loan

Allows a company to write larger policies because a portion of
the risk involves will be assumed by other companies

Fewer companies are offering reinsurance because of
generous court awards and the difficulty in assessing the
amount of potential claims
23
Health Care Insurance Operations

Insurance companies:

Offer coverage for hospital stays, physician visits, and surgeries

Serve as intermediaries between health care providers and the
recipients of health care

Types of health care plans

An indemnity plan reimburses insured individuals for health care
offered by health care providers

A managed health care plan allows insured individuals to obtain
health care services from specified health care providers who
participate in the plan

Premiums are generally lower and payment is typically made
directly to the provider


Individual must choose providers who participate in the plan
24
Health Care Insurance Operations
(cont’d)

Managed health care plans

Health maintenance organizations (HMOs)

Require individuals to choose a primary care physician who
functions as a gatekeeper for that individual’s health care

Patients must first see their PCP to obtain referrals

Preferred provider organizations (PPOs)

Usually allow insured individuals to see any physician
without a referral

Insurance premiums are higher than HMO insurance
premiums
25
Health Care Insurance Operations
(cont’d)

Health care insurance in the future

Health care expenses have risen dramatically in
recent years


Some insurance companies that provide health care
insurance have incurred major losses

Insurance companies increased their premiums

The status of health care insurance and
reimbursement is subject to changes caused by
possible health care reform