Page 56 - Risk Management in current scenario

ASSETS AND LIABILITY

MANAGEMENT IN THE INDIAN

CONTEXT

T here is a turnaround in the product mix portfolios in the Indian

Life industry from 80% Unit Linked and 20% Traditional in late
2000 to 75% Traditional and 25% unit linked in recent past due
to distribution reward constraints in selling linked business.

This has led to increasing attention on managing the interest rate risk
while selling guaranteed maturity payout traditional products. The risks
in such products stem out from fall in the future interest rate.

The interest rate risk is managed through assets and liability management
(“ALM”) by matching duration of assets and liability. However, there is a
difficulty in calculating the duration of liability in regular premium
products because sign of liability cash flows (Premium minus outgo)
remain positive in initial years and later become negative.

This happens because premium is level whereas the outgoes are
increasing due to age resulting into positive liability cash flows in initial
years and as outgoes increases over premium in later years, liability cash
flows become negative leading to non-sensical value of liability duration.
For example a product of term 20 years, may have duration 50 years or
so during initial years. The assets on the other hand are of shorter
duration of say 10 years which are backing the liabilities.

54 | Risk Management in Current Scenario