Agile Thinking Crossover Between Risk-Neutral and Real-World Scenarios
17 May 2018
Investment decision-making is a challenge for insurance companies due to changing market developments and regulations. To make these decisions, real-world scenarios are used by insurers to gain insight into the future dynamics of economic variables and to understand the future dynamics of their balance sheet. These decisions are crucial for life insurers because at a future time they need to incorporate the valuation of policyholder contracts that contain guarantees into the computation of the balance sheet. The valuation of these embedded options is based on risk-neutral scenarios.
Incorporating agility into the investment decision-making process continues to pose challenges to life insurers. One of these challenges is due to a combination of 1: The desire for being able to anticipate unforeseen market movements and 2: The complexity of evaluating the balance sheet at a future point in time. The latter is mainly due to the complexity of incorporating the valuation of embedded options in the computation of the balance sheet, for which risk neutral scenarios are used.