A.

Prerequisite Review
CALCULUS REVIEW
d
dx

ex = ex

UNIFORM DISTRIBUTION
X uniform a to b
f (x) =

1
ba

D {f (g(x))} = f 0 (g(x)) g 0 (x)

F (x) =

xa
ba

(uv)0 = u0 v + u v 0
R
R
udv = uv vdu

E[X] =

a+b
2

ex dx = ex + c

Var[X] =

(ba)2
12

CONDITIONAL PROBABILITY
Pr(A B)
Pr(A|B) =
Pr(B)
f (x, y)
fX (x|y) =
fY (y)
R
fY (y) = f (x, y) dx

v = (1 + i)1 = e
v 2 = (1 + i)2 = e2
v n = (1 + i)n = en

E[X] = EY [EX [X|Y ]]





Var[X] = EY VarX [X|Y ] + VarY EX [X|Y ]

NORMAL APPROXIMATION
EXPONENTIAL DISTRIBUTION

all x

E[X] =

Exponential distribution is memoryless

xp(x)

all x

E[g(X)] =

f (x) =
g(x) p(x)

all x

Var[X] = E[X 2 ] (E[X])2

X
F (x) = Pr[X x] =
p(y)

1
1 x
e

1x

F (x) = 1 e

Var[Y ] = (a b)2 p(1 p)

CONTINUOUS RANDOM VARIABLES

R
x f (x) dx = 1
R
E[g(X)] = x g(x) f (x) dx
Rx
F (x) = Pr[X x] =
f (y) dy
f (x) =

d
F (x)
dx

v v2
i 2i + i2

Central Limit Theorem:

d 2d d2

Y = X1 + X2 + + Xn

Xi s are iid RVs(x , x2 )

2i+i2
2

Y Normal(E[Y ] = nx , Var[Y ] = nx2 )

ANNUITY CERTAINS

E[X] =
95th percentile of Y :
Var[X] = 2

MIXED RANDOM VARIABLES

CONVERT BETWEEN i, d, and
Example:

(1)

X=a

p(a)

X=b

p(b)

i
1
(2)

a<X<b
f (x)
Rb
p(a) + a f (x) dx + p(b) = 1
R
E[X k ] = ak p(a) + ab xk f (x) dx + bk p(b)

d
=i
1d
i
=d
1+i

= ln(1 + i)

i
1 vn
= an

a
n nv n
(Ia)n =
i
n an
(Da)n =
i
Z
1
t
a
=
v dt =

0
Z
1
t
a) =
(I
tv dt = 2

0
Z n
a
n nv n
a)n =
(I
tv t dt =

Z0 n
na
n
t

(D
a)n =
(n t)v dt =

0
a
n =

y = y + y 1 (0.95)

yx

Bernoulli Shortcut for the RV:

(
a p(a) = p
Y =
b p(b) = 1 p

DOUBLE THE FORCE OF INTEREST

1 + i (1 + i)2

median = mean
DISCRETE RANDOM VARIABLES
X
p(x) = 1

DISCOUNTING

(1)
(2)

ACCUMULATING
COVARIANCE

1 + i = e

Var(aX + bY ) = a2 Var(X) + b2 Var(Y )

+2ab Cov(X, Y )

(1 + i)2 = e2
(1 + i)n = en

Cov(X, Y ) = E(XY ) E(X)E(Y )

If X and Y are independent
then covariance is 0.

c
2012
The Infinite Actuary

B. Survival Models and Life Tables

RANDOM VARIABLES

LIFE TABLES

Tx future lifetime of (x)

lx expected number of survivors at (x)

TEMPORARY LIFE EXPECTANCY

Z n

ex:n = E[Wx ] =
t px dt
0

Kx number of completed future years by

(x) prior to death.

n dx

expected number of deaths between

ages x and x + n

Kx = bTx c

ex:n = E[Kx n] =
E[Wx2 ] = 2

k px

Out of births, one dies every year until they

are all dead.
Future lifetime is uniformly distributed from 0
to x.

k=1

n
X

DE MOIVRES LAW

`x = k ( x)

t t px dt
0

Wx future lifetime or n years whichever is

less.
Wx = Tx n

FORCE OF MORTALITY
Intuitively, x+t dt is the probability that a life
age x + t will die in the next instant.

CUMULATIVE DISTRIBUTION
Probability of (x) dying before age x + t.
Fx (t) = Pr(Tx t)

t qx

d `
dt
x+t
`x+t

n px

d
p
dt t x

= (n px )k

= t px x+t
= t px x+t

Probability of a (x) attaining age x + t.

ACTUARIAL NOTATION

PROBABILITY DENSITY FUNCTION

= Sx (t)

t+u px
t qx

= t px u px+t

n px

Age doesnt matter.

ex =

Future lifetime is distributed exponentially

with mean 1/.

t qx

= 1 t px

t|u qx
t| qx

t|u qx

= Sx (t) Sx (t + u)
= t px t+u px
= t+u qx t qx
= t px u qx+t

for all x

= en = (px )n
1

1
2

Recursion
ex = px (1 + ex+1 )

ex:n = ex (1 n px )
ex:n = ex (1 n px )
Discrete Constant Force Kx geometric
fKx (k) = pk q
ex = E[Kx ] =

COMPLETE EXPECTATION OF LIFE

Average future lifetime of (x).
Z

ex = E[Tx ] =
t px dt
Z 0
E[Tx2 ] = 2
t t px dt

Var[Kx ] =

p
q2

m
x

xn
x

x
2

half way to omega

= n px (n) + n qx n
2

ex:n

a(x) =

1
2

Discrete DML
=

x =

`x+t = `x et

k=1

For integral x, ex is the expected number of

future birthdays.

1
x

MODIFIED DML

Sx (t) = et

= x

n
x

k| qx

Var[Tx ] =

probability that (x) will survive t years

and die within the following u years.

is the PDF for Kx

n px

fx (t) = Fx0 (t) = Sx0 (t) = t px x+t

CURTATE EXPECTATION OF LIFE

X
ex = E[Kx ] =
k px

n qx

xt
x

1
x

qx =

CONSTANT FORCE

ex =

probability that (x) dies within t year

t qx = Fx (t)

n|m qx

Intuitively, the probability that (x) dies at age

x + t.

t px probability that (x) will attain age

x + t.
t px

Sx (t) =

ex:m+n = ex:m +m px ex+m:n




ex px 1+ ex+1 + qx 12

x+t =
Sx (t) = Pr(Tx > t) = 1 Fx (t)

ex = ex:n +n px ex+n

If x+t = k x+t :

d
q
dt t x

SURVIVAL DISTRIBUTION

fx (t)
Sx (t)

=
= dtp
t x
Rn


n px = exp 0 x+t dt
x+t =

1
x

x =

Recursion

p
q

a
x

`x = ( x)a

a
Sx (t) = xt
x

a
xn
n px =
x

ex =

x
a+1

FRACTIONAL AGES
Uniform Distribution of Deaths (UDD)
- Use linear interpolation.
Constant Force
- Use exponential interpolation.

c
2012
The Infinite Actuary

SELECT MORTALITY
[age] = age selected
Read across and then down the table.

GOMPERTZ LAW
x = Bcx

c > 1, B > 0


i
B
cx (ct 1)
t px = exp ln c
h

MAKEHAM LAW
x = A + Bcx

c > 1, B > 0, A B
h 

i
B
cx (ct 1)
t px = exp(At) exp ln c

c
2012
The Infinite Actuary

C. Insurance Benefits
PURE ENDOWMENT

TERM INSURANCE
(
v Tx 0 Tx n
1

Z x:n =
0
Tx > n
Z n
1 =
A
v t t px x+t dt
x:n

MLC discount factor

(
0
0 Tx n
Z x:n1 =
v n Tx > n

n Ex

Ax:n1

vn

x
x = A
1 + n| A
A
x:n
Z n+m

v t t px x+t dt
n|m Ax =

n px

Var[Z x:n1 ] = 2n Ex (n Ex )2
= v 2n n px n qx

Bernoulli shortcut

1
Z x:n

WHOLE LIFE INSURANCE

1
Ax:n

v Kx +1 Kx = 0, 1, . . . , n 1
=
0
Kx = n, n + 1, . . .
n1
X
=
v k+1 k| qx

Zx = v Kx +1 , Kx = 0, 1, 2, . . .

X
Ax =
v k+1 k| qx
k=0

N-YEAR DEFERRED WHOLE LIFE

(
0
0 Tx n

Z
=
x
n|
v Tx Tx > n
Z

v t t px x+t dt
n| Ax =
n

= n Ex A
x+n
(
0
Kx = 0, 1, . . . , n 1
n| Zx =
v Kx +1 Kx = n, n + 1, . . .

1
Ax = Ax:n
+ n| Ax
n+m1
X
v k+1 k| qx
n|m Ax =
k=n

VARYING TERM INSURANCE

Z n


1 =
IA
tv t t px x+t dt
x:n
Z0 n


A
1 =
D
(n t)v t t px x+t dt
x:n

Ax = vqx + vpx Ax+1

Draw a pain curve.

Ax:n = vqx + vpx Ax+1:n1

For constant force:

(IA)x = vqx + vpx (Ax+1 + (IA)x+1 )

= n Ex Ax+n

INCREASING WHOLE LIFE

= Tx v Tx , Tx 0
IZ
x
Z


=
IA
tv t t px x+t dt
x
0

Kx = 0, 1, 2, . . .

Pr(SBP is sufficient) =

/

(IA)x = Ax + vpx (IA)x+1

1
= vqx h
(IA)x:n
i
1
1
+vpx (IA)x+1:n1
+ Ax+1:n1
1
1
(DA)x:n
= nvqx + vpx (DA)x+1:n1

x =
A

en(+)

Assuming UDD:
x =
A

CONSTANT FORCE
n Ex

CONTINUOUS VS. DISCRETE

1 =
A
x:n

i 1
A
x:n

x:n =
A

i 1
A
x:n

(m)

Ax
Ax =

vq
vq+d

1 = A
x (1 n Ex ) A 1 = Ax (1 n Ex )
A
x:n
x:n



n(+)

A
=
e
n| x
+

2
1
1

(I A)x = Ax
(IA)x = vq
(Ax )2

i
A
x

+ n Ex

i
Ax
i(m)

= i (IA)
IA
x

x

1
i
1

I A x:n = (IA)x:n

1
i
1

DA
x:n = (DA)x:n


= i (IA) i
IA
x

1
d

Ax

A
1 = nA
1
1 + D
IA
x:n
x:n
x:n
1
1
1
(IA)x:n
+ (DA)x:n
= (n + 1)Ax:n

n| Ax

(IZ)x = (Kx + 1)v Kx +1 ,

PERCENTILES

k=0

x = v Tx , Tx 0
Z
Z
x =
A
v t t px x+t dt

n| Ax

RECURSION

ENDOWMENT INSURANCE
(
Tx
0 Tx n
x:n = v
Z
vn
Tx > n
x:n = A
1 + n Ex
A
(x:n
v Kx +1 Kx = 0, 1, . . . , n 1
Zx:n =
vn
Kx = n, n + 1, . . .
1
Ax:n = Ax:n
+ n Ex

Assuming death occurs in the middle of the

year:

DE MOIVRES LAW
APV is an annuity-certain for the number of
years of insurance remaining divided by x.
All of the following formulas follow that.
ax
a

x = x
A
Ax =
x
x


a
I
(Ia)x


x
=
IA
(IA)x =
x
x
x
a
n
x


a
I


n
1 =
IA
x:n
x
a)n


A
1 = (D
D
x:n
x

1 =
A
x:n

1
Ax:n
=

x = (1 + i)1/2 Ax
A
(m)

Ax

= (1 + i)(m1)/2m Ax

an
x

1
(IA)x:n
=
1
(DA)x:n
=

(Ia)n
x
(Da)n
x

(IA)x = Ax + 1| Ax + 2| Ax +

c
2012
The Infinite Actuary

D. Life Annuities
WHOLE LIFE ANNUITY

N-YEAR DEFERRED WLA

Twin Whole Life Insurance

No Twin
(
0

Y
=
n| x
a
Tx a
n

1 v Tx
Yx = a
Tx =

Z
x
1A
a
x =
a
x =
t Ex dt

x
n| a

=a
x a
x:n

x = 1
A
ax

x
n| a

= n Ex a
x+n

x
n| a

= n Ex a
x+n

 
Var Yx =

2A
x

x
A

2

2
1 v Kx +1
Yx = a
Kx +1 =
d

X
1 Ax
a
x =
a
x =
k Ex
d
k=0

Twin N-Year Endowment Insurance

(
a
Tx 0 Tx n
Yx:n =
n < Tx
a
n
x:n
1Z
=

Z n
x:n
1A
a
x:n =
a
x:n =
t Ex dt

0
x:n = 1
A
ax:n


2A
x:n A
x:n 2



Var Yx:n =
2

1 Zx:n
Yx:n =
d
a
x:n =

1 Ax:n
d

a
x:n =

n1
X
k=0

a
x:n = a
x n Ex a
x+n
h

Var Yx:n

2A

x:n

k Ex

a
x =

x (1 n Ex )
a
x:n = a


a = (
I
ax )2
x

1
vq + d

a
x:n = a
x (1 n Ex )

DE MOIVRES LAW

DEFERRED TEMPORARY ANNUITY

a
x = 1 + vpx a
x+1

Use the most important identity.

No twin.

ax = vpx a
x+1
n+m

v t t px dt

a
a
I
+ D
= n
ax:n
x:n
x:n

x+1
a
x = a
x:1 + vpx a

ANNUITIES PAYABLE M-THLY

x:n
=a
x:n+m a

x:1 + vpx a
x+1:n1
a
x:n = a

Always true:

= n| a
x n+m| a
x

a
x:n = 1 + vpx a
x+1:n1

Ax

= n Ex a
x+n:m

(I
a)x = 1 + vpx (
ax+1 + (I
a)x+1 )

x:n
Ax:n = 1 d(m) a

(I
a)x = a
x + vpx (I
a)x+1


x+1:n1 + (I
a)x+1:n1
(I
a)x:n = 1 + vpx a

Assuming UDD:

For annuity-due same 3 formulas as above but

replace a
with a
.

N-YR CERTAIN AND LIFE AFTER

(
a
n
0 Tx n

Yx:n =
a
Tx n < Tx

(m)

(m)

= 1 d(m) a
x

(m)

(m)

(m)

(D
a)x:n = n + vpx (D
a)x+1:n1

= (m) a
x (m) (0 Ex Ex )

(m)
a
x:n

= (m) a
x:n (m) (0 Ex n Ex )

a
x:n = a
n + n| a
x

ADJUSTED FORCE OF MORTALITY

n + n| a
x
a
x:n = a

If x+t = x+t + c and = c, then

(m) 1

= n Ex

(m)

a
x

(m)

m1
2m

sx:n =

a
x:n
n Ex

a
x

m1
2m

m2 1
12m2

(x + )

for other annuities, write them in terms of

a whole life annuity

ACCUMULATED APV
a
x:n
n Ex

= (m) n| a
x (m) (n Ex Ex )

Woolhouse (3 terms)

a
x = a
x

sx:n =

= (m) symbol w/o (m)

(m) (start - end)

a
x

(m)
x
n| a

INCREASING WHOLE LIFE

a
IY x = I
T 0
Tx
x

a
x IA


x
a =
I
x

=a
a
IA
x I
x
x

(m)

symbol with

(I
a)x:n = a
x:n + vpx (I
a)x+1:n1

n Ex

1 = 1
ax:n n Ex
A
x:n

1
+

RECURSION

N-YEAR TEMPORARY ANNUITY

a
x =

(I
a)x:n + (D
a)x:n = (n + 1)
ax:n

x
n|m a

Yx = aKx = a
Kx +1 1 ax = a
x 1

CONSTANT FORCE

(I
a)x = (
ax )2

/

Pr(SBP is insufficient) =
+

Ax = 1 d
ax
h i
2 A (A )2
x
x
Var Yx =
d2

0 Tx n
n < Tx

VARYING TEMPORARY
Z n


a
I
=
tv t t px dt
x:n
Z0 n


a
(n t)v t t px dt
=
D
x:n

sx:n =

ax:n
n Ex

(I
ax ) (Ia)x = a
x

(Ax:n )2
d2

ax:n = a
x:n 1 + n Ex

c
2012
The Infinite Actuary

E. Premium Calculation
LOSS AT ISSUE

ENDOWMENT INSURANCE

SEMICONTINUOUS INSURANCE

GROSS PREMIUMS

L loss at issue random variable

Fully Continuous:

Benefit paid at the moment of death and premiums paid at beginning of the year.

x = Ax
P A
a
x
1


A
x:n
1
P A
x:n =
a
x:n

x:n = Ax:n
P A
a
x:n

Lg = PV of future benefits
+ PV of future expenses
PV of future premiums

L = PV of benefits PV of premiums
E[L] = APVFB APVFP

x:n P a
E[L] = S A
x:n

2 



2A
x:n A
x:n 2
Var[L] = S + P
Fully Discrete:
E[L] = SAx:n P a
x:n

2 

2
P
2A
Var[L] = S + d
x:n (Ax:n )

EQUIVALENCE PRINCIPLE
E[L] = 0 APVFB = APVFP

PERCENTILE PREMIUMS
N-YEAR TERM INSURANCE

Whole Life and Endowment Insurance:

Var[Z]
(1 SBP)

x +
P A

x
P A
x =


A
x +
P A

1
P A
x:n

1
P x:n
=

Whole Life and Endowment Insurance Only:

Ax:n
x = Ax
P A
Px:n =
a
x
a
x:n

a
x =

1
P A
x:n

1
A
x:n

Group of policies:

a
x:n

E[S] + 1 (1 x%)

KEY PREMIUM IDENTITIES

x = 1
P A
a
x

x = Ax
P A
x
1A

Px:n =
Px:n

Ax:n

1
d
a
x:n

dAx:n
=
1 Ax:n

a
x:n =

New Equivalence Premium:

E[Lg ] = 0 APVFB + APVFE = APVFP
APV of Benefits + APV of Expenses
APV Annuity

2
r
Var(Z)
Var[Lg ] = S + E + Ge
d
G=

APV benefit
benefit premium =
APV annuity

Var[L] =

E[Lg ] = APVFB + APVFE APVFP

x:n P A
1
= P A
x:n

1
Ax:n

a
x:n

Px:n
=
Px:n + d

N-PAY WHOLE LIFE

x


A

n P Ax =
a
x:n
n Px

N-YEAR DEFERRED WLA

x


n| a
P n| a
x =
a
x:n
x
n| a

Var[L] = p 2 Ax

Fully Continuous Whole Life:

Premiums paid m-thly instead of annually.

Px

(m)
n Px

/

Ax

=
=

(m)

a
x
Ax:n

DE MOIVRES LAW

(m)

a
x:n
Ax
= (m)
a
x:n

Use key premium identities and most important identity.

x
n| a
a
x:n

(P-P) / P
n Px

1
P x:n

P x:n1

Fully Continuous:

E[L] = SAx P a
x

2 

P
2 A (A )2
Var[L] = S + d
x
x

CONSTANT FORCE


x =
P A
Px = vq


1
1
P x:n
P A
= vq
x:n =

Pr(benefit prem is sufficient) =

(m)

Ax
a
x:n

WHOLE LIFE

Fully Discrete:

FRACTIONAL PREMIUMS

(m)
Px:n

x P a
E[L] = S A
x

2 



2A
x A
x 2
Var[L] = S + P

Single policy:
Find the policy you must win on and then
solve for the premium it will take to win on
that death.

x
Var[L] = 2 A

1
Px:n + d

p
Var[S] = 0

COMPARE VARIANCE
Two identical policies (whole life or endowment insurance)
P1 L1

= Ax+n

Px:n n Px
= 1 Ax+n
P x:n1
1
Px:n P x:n

P x:n1

=1

P2 L2
Var[L2 ]
=
Var[L1 ]

P2 + d
P1 + d

2

c
2012
The Infinite Actuary

F. Reserves
#1 PROSPECTIVE METHOD

#4 PAID UP

#8 (P-P) / P

#11 RESERVE CREATION FORMULA

All Policies and All Premiums. All other methods only work when premiums are determined
using the equivalence principle.

Whole Life, Endowment Insurance, Term Insurance and Limited Pay Whole Life Only

Accumulated Difference in Premiums equals

Difference in Reserves

Useful when death benefit is a function of the

reserve.

Reserve = APV of the future benefit times

the percentage of the future benefit that you are not funding with
future premiums

Remember

Reserve = APVFB APVFP

Example fully continuous whole life:

x+t
t V Ax = Ax+t P Ax a

Example full continuous whole life:

"

#
x


P A

1

V
A
=
A
x
t
x+t
x+t
P A

1
P

= sx:n

Example
Px:n Px
= n Vx:n n Vx = 1 n Vx
P x:n1

#9 ANNUITY FORM SPINOFF

All Policies under EP.

#5 ANNUITY FORM

Whole Life and Endowment Insurance Only

Reserve = AAVPP AAVPB

Whole Life and Endowment Insurance Only

Example fully discrete whole life:

t Vx:n

= Px:n sx:t t kx

ACCUMULATED COST OF INS

t kx

t Ex

dx (1+i)t1 +dx+1 (1+i)t2 ++dx+t1

lx+t

For one year:

1 kx

Example fully discrete endowment ins.:

a
x+t:nt
t Vx:n = 1
a
x:n

1
Ax:t

Thinking in terms of life tables:

t kx

Reserve = 1 minus (the annuity at the dot divided by the annuity at issue)

qx
px

#6 LIFE INSURANCE FORM

Whole Life and Endowment Insurance Only
Reserve = insurance at the dot minus the insurance at issue divided by one minus the insurance at issue
Example fully discrete whole life:
Ax+t Ax
t Vx =
1 Ax

#3 DIFFERENCE IN PREMIUM
Whole Life, Endowment Insurance, Term Insurance and Limited Pay Whole Life Only
Reserve = accumulated difference in premium
you want to charge and premium
you are actually charging
Example fully continuous whole life:









a
x+t
t V Ax = P Ax+t P Ax

#7 BENEFIT PREMIUM FORM

Whole Life and Endowment Insurance Only

1. cost of providing ensuing years DB

2. rest is for reserve creation
tV

= P st t1
X

vqx+h (bh+1 h+1 V ) (1 + i)th

h=0

#2 RETROSPECTIVE METHOD

Example fully discrete endowment ins.:

Each premium accounts for two items:

x:n

DB = Reserve: t V = P st
DB = 1 + Reserve:
tV

= P st

t1
X

qx+h (1 + i)th1

h=0

a+b Vx = 1 (1 a Vx ) (1 b Vx+a )

DB = 1 + Reserve and qx+h = q :

#10 RESERVE RECURSION
Start with the terminal reserve from the previous year, collect the premium and put those
in the bank. If the policyholder dies pay the
death benefit. If the policyholder lives setup
the next reserve.
Example - fully discrete 20-year endowment insurance on (40):


10 V40:20 + P40:20 (1+i) = q50 +p50 11 V40:20


NAR version: = q50 1 11 V40:20 + 11 V40:20

tV

= (P vq) st

VARIANCE LOSS
For Whole Life and Endowment Insurance:


2
Var(t L) = S + P
Var(v U )
EP

Var(v U )
(1 SBP)2

Example fully discrete endowment ins.:

Var(t L) =

S+
EP

P
d

2 

2A

x+t:nt

2A
x+t:nt

2 

Ax+t:nt
2


Ax+t:nt

(1 Ax:n )2

Reserve = premium at the dot minus the premium at issue divided by the premium at the dot plus delta (or d)

CONSTANT FORCE

Example fully discrete whole life:

Under EP, level premium whole life and term

insurance reserves are 0.

t Vx

Px+t Px
Px+t + d

c
2012
The Infinite Actuary

GROSS PREMIUM RESERVES

MODIFIED RESERVES

To find the gross premium, G, solve new EP

lower modified prem in the first year

APVFP = APVFB + APVFE

higher modified prem in the renewal years

Expense Reserves:

FPT Reserves:

kV

= APVFE APVFL

kV

= AAVPL AAVPE

1
= Ax:1

= benefit premium for insurance issued

to (x + 1)

Gross Premium Reserve:

kV

= kV

+ kV

1V

=0

tV

= (t 1) reserve for insurance issued

to (x + 1)

Can also use recursion for expense and gross

premium reserves.

GAIN
SEMI-CONTINUOUS RESERVES
Assuming UDD


i

t V A x = t Vx


i
1
1
t V Ax:n = t V x:n


i
1
1

t V Ax:n = t V x:n + t V x:n

INTERIM BENEFIT RESERVES

Exact Method:
(h V + h ) (1 +

i)s

v 1s

= s qx+h
+s px+h h+s V

Approximation: use linear interpolation between initial reserve and the terminal reserve.

Gain = Actual Profit Expected Profit

Profit = (t V + Gt et ) (1 + i)
qx+t (St + Et ) px+t t+1 V
Analysis of Surplus:
expenses: (et e0t ) (1 + i) + (Et Et0 ) qx+t
interest: (i0 i) (t V + Gt e0t )


0
mortality: qx+t qx+t
(St + Et0 t+1 V )
Order matters. Use actual experience if you
have already accounted for that source.

POLICY ALTERATIONS
Reduced Paid-Up:
RP U =

THIELES DIFFERENTIAL EQN

t CVx
Ax+t

Extended Term (solve for n):

d
V
dt t

= t t V +Gt et (St + Et t V ) [x]+t

t+h V h Gt et (St + Et ) [x]+t


tV
1 + h [x]+t + t

t CVx

1
= Ax+t:n

For endowment insurance if the cash value is

large enough to cover the remaining term, then
solve for reduced pure endowment benefit, P E
t CVx

1
= Ax+t:nt
+ P E nt Ex+t

c
2012
The Infinite Actuary

G. Markov Chains
NOTATION
ij
t px

MULTIPLE DECREMENT MODEL

probability that a subject in state i at

time x will be in state j (where j may
equal i) at time x + t

ii
t px

exit
1

probability that a subject in state i at

time x stays in state i continuously until time x + t

ii
t px

exit
2

t pii
x

ANNUITIES

THIELES DIFFERENTIAL EQN

Pay 1 per year continuously while in state j:

Z
a
ij
et t pij
x =
x dt

d
V (i)
dt t

(i)

= t t V (i) Bt
n


X
(ij)

ij
+ t V (j) t V (i)
x+t St
j=0,j6=i

If payable at the start of the year:

X
a
ij
v k k pij
x =
x
k=0

Eulers method:
th V

active
0

(i)

(i)

= t V (i) (1 t h) + hBt
n


X
(ij)
+h
ij
+ t V (j) t V (i)
x+t St
j=0,j6=i

INSURANCE

DISCRETE MARKOV CHAINS

P(t) is the transition matrix at time t
ij
t px

= ij entry of

ii
t px

ii
ii
= pii
x px+1 px+t1

P(x)

P(x+1)

exit
m

P(x+t1)

0j
t px

CONTINUOUS MARKOV CHAINS

ij
x
ii
t px

=
1 t p00
x
 R

= exp 0t 0
x+s ds

h0

Probability of transition from one state to another depends on the model.

KOLMOGOROVS FORWARD EQNS


X 
ik kj
ij jk
d
pij =
t px x+t t px x+t
dt t x
k=0,k6=j
d
pij
dt t x

PERMANENT DISABILITY MODEL

Healthy
0

01
x

02
x

Disabled
1

prob move

into j
at time x + t

Eulers method turns a continuous Markov

Chain into a discrete chain with time increments of h and transition probabilities
(
hij
i 6= j
ij
x+t
p
=
h x+t
1 hi
x+t i = j

Rt

00
0 s px

j6=k

If all transition forces are constant and no reentry into a state

1
a
ii
x = i
+
For the multiple decrement model with constant transitions:
0j
0j
A
x = 0
+

RESERVES
tV

(i)

rate of payment of benefit while the

policyholder is in state i

(ij)

lump sum benefit payable instantaneously at time t on transition from

state i to state j

St

PREMIUMS
APV of benefit
APV of annuity

reserve at duration t for a subject in

state i at that time

(i)

Bt

benefit premium =
01
t px

prob move
out of j
at time x + t

12
x
Dead
2

CONSTANT FORCE AND NO RE-ENTRY

ij
h px

for i 6= j
h
 R

t i
= exp 0 x+s ds

= lim

00
t px

0j
x
0
x

Pay 1 on each future transfer into k:

Z
X
ij jk
ik =
A
et
t px x+t dt
x

11
01
x+s ts px+s ds

c
2012
The Infinite Actuary

H. Multiple Decrement Models

MULTIPLE DECREMENT MODEL

FORCE OF DECREMENT - 2
( )

exit
1

x+t =
(j)
x+t

exit
2
active
0

( )
d
q
dt t x
( )
t px

(j)

prob. of decrement due to any cause

m
X
( )
(j)
t qx =
t qx
(j)

Ax =

( )

j
v k k1 px qx+k1

FORCES OF DECREMENT - 1

( )

(1)

(2)

( )
0 s px

Rt

cause
1

(m)

(1)

qx

(2)

(j)

x+s ds

Pr(J = j | T = t) =

x+t

qx

alive
0

(j)
t qx

(j)

(j)
x
A
=

( )

R
0

exit
1
01
x+t
exit
2
active
0

cause
3

( )

(j)

v t t px x+t dt

CONSTANT TRANSITION FORCES



(j)
( )
(j)
t qx = ( ) 1 t px



 
(j)
( ) t
(j)
t qx
1 px
t qx =
( )
(j)
+
1
a
x = ( )

+


(j)
(j)
( )

A
1 n Ex
= ( )
1
x:n

( )

0 is redundant so we use:
(j)
x+t

1
2

(i)

dx

Constant Force and UDDMDT:


 (j) ( )
( ) qx /qx
p0 (j)
x = px
UDDAST:
For 2 UDDASTs use the midpoint:


(1)
qx = q 0 (1)
1 12 q 0 (2)
x
x

q 0 (1)
x

alive
0

For 3 or more UDDASTs use integration:

0 (j)
tp x

(j)

x+t = q 0 (j)
x - factor out of integral

For 3 UDDASTs (if you like memorizing):





(1)
0 (3) + 1 q 0 (2) q 0 (3)
qx = q 0 (1)
1 12 q 0 (2)
x +q x
x
x
3 x
Hybrids:
cause
1

Draw a picture. For 2 competing UDDASTs

use the midpoint of the interval.

q 0 (2)
x

alive
0

ASSET SHARE
Recursion:
[k AS + G(1 ck ) ek ] (1 + i)
(d)

0 (2)
0 (m)
= t p0 (1)
x tp x tp x

(w)

( )

= qx+k + qx+k k+1 CV + px+k k+1 AS

q 0 (3)
x

alive
0

( )
t px

cause
2

ABSOLUTE RATE OF DECREMENT


 R
t (j)
0 (j)
0 (j)
t q x = 1 t p x = 1 exp 0 x+s ds
exit
m

t qx

02
x+t

0m
x+t

dx
( )
`x

(3)

qx

1 t px

( )

cause
2

( )
x+t

If all forces are a constant multiple of the total

force for all t 


(j)
A
x

q 0 (j)
x =

Rates of Decrement

k=1

0j
x+t

Probabilities of Decrement

i6=j

j=1

Super secret approximation:

(j)
d
q
dt t x
( )
t px

( )

qx

Each cause is independent of the other causes.

(j)

(j)

qx prob. of decrement due to cause #j

MDT vs. AST

x+t = x+t + x+t + x+t

 R

( )
t ( )
t px = exp 0 x+s ds
(j)
t qx

exit
m

ABSOLUTE RATE OF DECREMENT

cause
3

Notice how in the rate of decrement worlds

there is only one cause of decrement. For the
rates of decrement we have 3 tables and for the
multiple decrement world we have one table
with 3 competing decrements.
0 (j)
tq x

n-th Asset Share using Asset Share Creation:

(d)

(w)

n1
X

G(1 ck ) ek vqx+k vqx+k k+1 CV

k=0

( )
nk Ex+k

For additional premium of G:

AS =

n1
X

G(1 ck )

k=0

( )
nk Ex+k

(j)

t qx

n1
X

G(1 ck )k px v k

k=0

( )
n Ex

( )

c
2012
The Infinite Actuary

I. Multiple Life Models

JOINT-LIFE STATUS

LAST-SURVIVOR STATUS

CONTINGENT PROBABILITIES

REVERSIONARY ANNUITY

Txy = min[Tx , Ty ]

Txy = max[Tx , Ty ]

1
n q xy

(y) gets money after (x) dies:

Failure on the first death.

Txy = Tx + Ty Txy

t qxy

t pxy

probability first death of (x) and (y)

occurs within t years

that for (xy) = that for (x) + that for (y)

that for (xy)

probability that (x) will attain x + t

and (y) will attain y + t

t qxy

t pxy

= t px t py

t qxy

= 1 t pxy

(work with ps)

fxy (t) = t pxy x+t:y+t

x+t:y+t = x+t + y+t
Z n
n qxy =
t pxy x+t:y+t dt

exy =

t pxy
0

exy =

dt

k pxy

k=1

xy =
A

t qxy

= t qx t qy

t pxy

probability at least one of (x) or (y)

survives for t years

(work the the qs)

t pxy

= 1 t qxy

t pxy

= t px + t py t pxy

Other versions:
a
x|y:n = a
y:n a
xy:n
a
x:n |y = a
y a
xy:n

0
2
n q xy

In other words:
a
u|v = a
v a
uv

Z
=

t py

y+t t qx dt

= n q xy1 + n q xy2

1
n q xy

= n q xy2 + n qx n py

Probability (x) dies more than n years after

death of (y):

= n+1 qxy n qxy

n| qxy

= n| qx + n| qx n| qxy

2
q x+n:y

n px

t pxy

x+t:y+t dt

a
xy = a
x + a
y a
xy

CONTINGENT INSURANCE
Z
1 =
A
v t t px x+t t py dt
xy

x + A
y A
xy
xy = A
A
1
Axy:n

1
Ax:n

1
Ay:n

1
Axy:n
c

2=
A
xy

xy = 1
A
axy
1
a
xy

probability that (y) dies after (x) and

before n years from now

If (x) and (y) independent:

Z n
1
n q xy =
t px x+t t py dt

n qy

n| qxy

Pxy =

fxy (t) = t px x+t + t py y+t t pxy x+t:y+t

0
2
n q xy

a
x|y = a
y a
xy

COMMON SHOCK
Find
total
total
total

the total force for each status:

force on (x) = x +
force on (y) = y +
force on (xy) = x + y +

Pr[(x) dies first] =

x +y +

Pr[(y) dies first] =

y
+

+
x
y

exy = ex + ey exy

exy = pxy (1 + ex+1:y+1 )

Z
a
xy =
v t t pxy dt
Z

probability that last death happens

within t years

1
n q xy

probability (x) dies before (y) and before n years from now

Z n Z
=
fxy (s, t) dt ds

v t t py y+t t qx dt

EXACTLY ONE STATUS

2=
A
xy

Pr[Tx = Ty ] =
x =
A

x +

x ++

y =
A

y +

y ++

x +y +

y+t dt
v t t px x+t t py A

0
[1]
t pxy

probability exactly 1 of (x) and (y) live

t years

y = A
1 +A
2
A
xy
xy

[1]
t pxy

= t px + t py 2 t pxy

SBP for a payment of 1 at the death of (x) if

he dies more than n years after the death of
(y):

[1]

x + a
y 2
axy
a
xy = a

n Ex

2
A
x+n:y

CONSTANT FORCE
x +y
x +y +

xy =
A
a
xy =
1
n q xy

1
x +y +

1 =
A
xy

x
q
x +y n xy
x
x +y +

c
2012
The Infinite Actuary

DE MOIVRES LAW

exx =

x
3

exy = yx px eyy +yx qx ey

2
n q xy

1 =
A
xy

1
q
2 n xy

a
y:x
x

c
2012
The Infinite Actuary

J. Other Topics
PENSION MATHEMATICS

PROFIT SIGNATURE

Replacement ratio:
pension income in year after retirement
R=
salary in the year before retirement

(
t =

Profit(0)
t1 px Profit(t)

t=0
t>0

where t1 px is the probability that policy is in

force at beginning of year t.

Salary Scale:
sy
salary received in year of age y to y + 1
=
sx
salary received in year of age x tp x + 1

v(t) current market price on a t year zerocoupon bond that pays $1 at time t.

Solve for j such that:

n
X
t vjt = 0
t=0

think of it as the discount function.

yt t year spot rate of interest
v(t) =

1
(1 + yt )t

PROFIT MARGIN

f (t, t+k) forward rate from time t to t + k

NPV
Pa
x:n

a
(x)y =

k px

v(k)

k=0

A risk is diversifiable if:

q
P
Var[ N
i=1 Xi ]
lim
=0
N
N

DISCOUNTED PAYBACK PERIOD

Find the smallest m such that:
m
X
t vrt 0

UNIVERSAL LIFE - Notation

Expenses Incurred
+ Interest Earned on Premium less Expenses

ECt expense charge for year t

The profit for year 0 is the negative of the expenses incurred at time 0.
Annual Profit =
Previous Rsv accumulated with interest
+ Premium Collected

Expected Cost of Benefits

Type A:

Annual Profit =

ADBt = F A AVt
DBt = F A

Previous Rsv (usually AV)

+ Premium Collected
Expenses Incurred

ADBt = F A
DBt = F A + AVt

+ Interest Earned on
Prev Rsv plus Premium less Expenses
Expected Cost of Benefits

CoIt = ADBt Ax+t1:1

= ADBt vq qx+t1

Expected Surrender Benefits

Expected Cost of Ending Rsv

CoItA =

[F A(AVt1 +Pt ECt CoItA )(1+ict )]vq qx+t1

[F A(AVt1 +Pt ECt )(1+ict )]vq qx+t1

1vq qx+t1
(1+ic
t)

Type B:
CoItB

= FA

vq qx+t1

CORRIDOR FACTORS
To qualify as life insurance the death benefit
must be at least a certain multiple (t for year
t) of the account value.
ADBtc = (t 1)AVt

t=0

F A face amount
AVt account value at end of year t
CVt cash value at end of year t
DBt death benefit for year t
ADBt additional death benefit for year t
CoIt cost of insurance for year t
SCt surrender charge for year t
ict credited interest rate in year t
It credited interest in year t
vq discount factor used in CoI calc

qx+t1
mort. rate used in CoI calc for year t

ANNUAL PROFIT

The profit for year 0 is the negative of the expenses incurred at time 0.

CoItA =

DBt = AVt + ADBt

Type A:

Profit Margin =

v(t)
(1 + f (t, t + k)) =
v(t + k)
Z
y=
A(x)
v(t) t px x+t dt

UNIVERSAL LIFE - Annual Profit

Type B:
INTERNAL RATE OF RETURN

INTEREST RATE RISK

UNIVERSAL LIFE - COI

UNIVERSAL LIFE - Roll Forward

ADBtf = F A AVt

Account Value Roll Forward:

ADBt = max[ADBtc , ADBtf ]

Starting AV (AVt1 )

CoIt = ADBt vq qx+t1

+ Premium (Pt )
Expense Charge (ECt )
Mortality Charge (CoIt )
+ Credited Interest (It )
= Ending Account Value (AVt )
AVtA =

(AVt1 +Pt ECt F A vq qx+t1

)(1+ict )

1vq qx+t1
(1+ic
t)

AVtB = same as numerator for AVtA

CVt = max[AVt SCt , 0]

Expected Cost of Ending Rsv

c
2012
The Infinite Actuary