Measuring Interest Rates Capital Requirement using Asset Liability Management Applied to Life Insurance Business

Abstract

Asset Liability Management (ALM) is relevant to, and critical for, the sound management of the finances of any organization that invests to meet its future cash flow needs and capital requirements. For a life insurance company in particular, it is an important component of the actuarial work in the company, and help to define, measure, monitor, modify and manage liquidity and interest rate risk.

This research describes understandings on the issues managing risks through the ALM process and explains the techniques that can be used to measure interest rate risk. Then, a full description of an ALM model given an empirical study in which it is shown how it is possible to manage the assets backing liabilities and interest rate risk using the basic dynamic ALM techniques applied to participating life insurance contracts in the Egyptian insurance market.

Shock scenarios have been applied for this purpose, aiming to get a suitable match between the assets and liabilities in such a way that changes in interest rates by shifts do not affect the financing of liabilities and calculation of the capital requirement for the interest rate risk.

The findings reveal that the ALM process is the most proper and effective strategy for the construction of portfolios in which the risks are eliminated; and should be incorporated into the framework of any insurance company's Enterprise Risk Management (ERM) plan.