The second Lecturer to the Faculty of Actuaries is Professor Paul Embrechts, Professor of Mathematics at the ETH Zurich (Swiss Federal Institute of Technology, Zurich), specialising in actuarial mathematics and mathematical finance. His previous academic positions include ones at the Universities of Leuven, Limburg and London (Imperial College), and he has held visiting appointments at various other universities. He is an elected Fellow of the Institute of Mathematical Statistics, an Honorary Fellow of the Institute of Actuaries, a Corresponding Member of the Italian Institute of Actuaries, Editor of the ASTIN Bulletin, on the Advisory Board of Finance and Stochastics and Associate Editor of numerous scientific journals. He is a member of the Board of the Swiss Association of Actuaries and belongs to various national and international research and academic advisory committees. His areas of specialisation include insurance risk theory, integrated risk management, the interplay between insurance and finance and the modelling of rare events.

Reserving is important to our profession as it is a core activity for actuaries. The members of the General Insurance Reserving Issues Taskforce (GRIT) have been considering how actuaries can improve the way in which we do reserving in general insurance. We gathered our thoughts and recommendations together in a Consultation Paper which has been discussed widely in the profession. We are very grateful to everyone who shared their views and comments with us, particularly those who gave us written feedback. We have considered carefully all the feedback which we received and adapted our final report in response to this.

Given the scope and importance of our remit, it is perhaps not surprising that this is not a short paper. We hope that Section 1 provides a reasonable summary.

Generally, our view is that there are many things on which our profession should focus. However, it is also important to remind ourselves of the positive items of feedback which we heard from our stakeholders. In addition to many suggestions for things to do better, we consistently heard the message that actuaries play an extremely valuable role in general insurance.

This is a major testimony to the progress which the actuarial profession has made in recent years in its ability to contribute to the general insurance industry. Perhaps it is because of this progress that now is an appropriate time for us, as a profession, to take a hard look at what we do in reserving, and ask ourselves whether there are any things which we could do differently. We hope that GRIT's report will facilitate this debate.

GRIT's recommendations fall under the following key themes:

— Providing more transparency to our reserving methods and helping our stakeholders have more insight into the key reserving assumptions and decisions.

— Providing more information on uncertainty in our reserve estimates. In particular, we recommend that actuaries provide a quantitative indication of the range of outcomes for future claim payments, and that our profession defines a common vocabulary for communicating uncertainty.

— Understanding better the business we are reserving. We suggest a range of analyses and activities for doing this.

— Applying our standard actuarial reserving methods more consistently. We identify a list of specific areas where we believe that there is scope for improvement. Also, we believe that the actuarial training syllabus should be extended, and this leads to consideration of whether a more specialised general insurance actuarial qualification is needed.

— Understanding the implications of the underwriting cycle, which, we believe, influences the behaviour of claims development in a way that our reserving models do not currently capture. We suggest what we believe may be the foundations of a potentially more cycle proof methodology, but this is an area which we believe will require much more research.

— Helping actuaries understand how behaviour can affect the reserve estimation process, particularly in the face of uncertainty. We make various suggestions in this area, including helping actuaries manage pressure from third parties.

We are convinced that, for our profession to implement these suggestions, it will require a concerted change management strategy and set of actions to embed changes into the way in which actuaries work. We believe that this will include:

— increasing the level of debate and research in the profession on claims reserving;

— a broader communication programme with the general insurance industry, covering, amongst other things, uncertainty and data quality;

— a sub-group of the GI Board with a specific focus on reserving, responsible for implementing GRIT's recommendations and dealing with new issues as they arise; and

— our profession resolving the conflicting pressures which will arise out of the extra work required for reserving by the GRIT recommendations.

There is one specific item where we have not made a recommendation. It has been suggested to us that many of the standard reserving methods in common use, such as the chain ladder, are not sophisticated, and that more sophisticated mathematical and statistical methods should be a priority. We do not agree with this. Whereas, in the longer term, this might be an important issue for our profession, we believe that the current focus for actuaries should be in the areas set out in this paper, such as understanding the business better.

GRIT believes that the issues which we have identified are important for the future of our profession and the contribution which we can make to the general insurance industry.

Late-life mortality patterns are of crucial interest to actuaries assessing longevity risk. One important explanatory variable is year of birth. We present the results of various analyses demonstrating this, including a statistical model which lends weight to the importance of year-of-birth effects in both population and insured data. We further find that a model based on age and year of birth fits United Kingdom mortality data better than a model based on age and period, suggesting that cohort effects are more significant than period effects. The financial implications of these cohort effects are considerable for portfolios with long-term longevity exposure, such as annuities written by insurance companies and defined benefit pension schemes.

Health expectancy (HE) was only recently estimated for the Scottish population (Clark et al., 2004). The estimates were based on Sullivan's method, applying the morbidity prevalence in each age group to the expected number of years lived, to obtain the expected number of years lived in good health. First, we compare these estimates with a wide range of estimates in respect of the rest of the United Kingdom and the (pre-accession) countries of the European Union. We find that Scotland's HE is relatively low, especially for men. Second, we examine data comprising the responses to the 1998 Scottish Health Survey, linked to the hospital records of the respondents from 1981 to 2004, and death records from 1998 to 2004, with HE measurement in mind. Although time spent in hospital does not give a satisfactory measure of HE, the linkage presents a rare opportunity for statistical analysis of survey respondents' mortality and morbidity. We show the results of survival analyses, quantifying the effectiveness of various definitions of ‘unhealthy’ as predictors of future mortality and morbidity. The results suggest that enumerating recent serious hospital episodes might help to predict future patterns of demand for acute services.

As part of the Profession's drive to widen the range of careers open to actuaries, a risk management taskforce was established. It put out a statement headed: ‘We're All Risk Managers Now’. Reactions to this varied from: “What do you mean now — actuaries have always been risk managers.” to: “That certainly doesn't include me.”

This Sessional Meeting takes the form of an open debate among actuaries from different fields about the role of risk management in their work:

Which actuarial fields are most advanced in the area of risk management?

Is a change of mindset required to make the most of the opportunities?

What about the part played by the actuarial education system?

Should actuaries look to broaden their experience at an earlier stage in their careers?

The meeting begins with a contribution from a member of the Finance, Investment and Risk Management Board, and from three speakers, with presentations on the subjects of pensions, of life insurance and of general insurance. The discussion which follows gives speakers the chance to say what they think and to help to shape the future strategy of the profession in the process.

The Profession claims to make financial sense of the future, and our particular angle is our purported ability to see past the whims of the short termists and keep an unwavering eye on the long term. The pensions arena has been no different … until now?

In June 2003, the Government converted defined retirement benefits unambiguously from an arguably vague promise to a debt, behind which the sponsor has to stand. A series of subsequent legislative changes, including the introduction of Scheme Specific Funding and of the Pension Protection Fund (PPF), with its proposed risk-based levies, has forced trustees to take a more commercial view to make sure that accrued benefits are met.

This stands in contrast to the gentler ‘funding’ environment in which pension schemes and Scheme Actuaries had become used to working. In that environment, the actuarial ‘long term’ justified many of the decisions taken in funding schemes — the long-term focus drove investment strategy and the approach to setting or agreeing contribution rates.

Has the rationale for the ‘long term’ disappeared: now that some of the discussion about funding has included talk of deficit correction periods of less than five years; now that accounting standards put any investment and actuarial volatility in the pension scheme into the sponsor's accounts every year; and now that PPF levies will change from year to year as funding levels and sponsor covenants change?

Has the Actuarial Profession over-reacted in focusing on the short term, or has it under-reacted? Will investment strategies look very different in years to come? Will valuations and funding advice take on a different shape?

This paper explores the effect of unhedgeable background risks such as mortality and labour risks (such as wages and turnover) on pension funding and finance. We explore the literature on the economics and finance of background risk, and discuss its applicability to pensions. Most of the results in economics apply to the special case of additive background risk, which is part of, but not all of, the background risk faced by pension funds. We develop three illustrative models and show the impact of background risk on pension funding and asset allocation. We find that the asset allocation and funding decisions of pension plans in general change with the introduction of background risk, in some cases significantly. We also explore implications of background risk for fair value calculations.

The paper identifies two major trends in the economic and social history of the last 150 years, and discusses their effect on the actuarial profession. The major economic trend is globalisation, with which is associated specialisation of function. The major social trend is the gradual collectivisation of society. Neither of these trends has developed monotonically. Both have developed in a ratchet-like movement over time. Globalisation is reflected in the overseas expansion of British life assurance companies up to 1914, followed by an extended period of retrenchment before expansion was resumed in the last quarter of the 20th century. The effect of the collectivisation of society on the actuarial profession has been felt most acutely in an intensification of the regulation of financial services.

An observer of the United Kingdom financial services scene over the last few years will have noticed the rising numbers of closed with-profits funds and final salary schemes closed to new entrants. Closed funds were not previously unheard of, but until recently most life insurance and pensions actuaries would not have come across them in their daily work.

There can be no doubt that, when compared to open funds, the closed variety have different characteristics and their financial management requires different approaches. Life and pensions actuaries tend to operate in their own separate fields, largely oblivious to what their fellow actuaries in other practice areas are doing. The growth of closed funds gives the two major branches of the U.K. actuarial profession an ideal opportunity to explore what we can learn from each other.

I am very grateful to the authors for tackling this subject on behalf of the profession and hope that it will be the first of many examples of useful cross-fertilisation of ideas.

This paper addresses the problem of longevity risk — the risk of uncertain aggregate mortality — and discusses the ways in which life assurers, annuity providers and pension plans can manage their exposure to this risk. In particular, it focuses on how they can use mortality-linked securities and over-the-counter contracts — some existing and others still hypothetical — to manage their longevity risk exposures. It provides a detailed analysis of two such securities — the Swiss Re mortality bond issued in December 2003 and the EIB/BNP longevity bond announced in November 2004. It then looks at the universe of hypothetical mortality-linked securities — other forms of longevity bonds, swaps, futures and options — and investigates their potential uses. It also addresses implementation issues, and draws lessons from the experiences of other derivative contracts. Particular attention is paid to the issues involved with the construction and use of mortality indices, the management of the associated credit risks, and possible barriers to the development of markets for these securities. It suggests that these implementation difficulties are essentially teething problems that will be resolved over time, and so leave the way open to the development of flourishing markets in a brand new class of securities.