Life Insurance Products & Finance (Pg 765)

[CowboyGuy]

Tagged: ACEManual

In example 14.4.3, where does the Predicted PVCashflow figure of 98.251703 come from?

[Bballry1234]

Originally Posted by CowboyGuy

Tagged: ACEManual

In example 14.4.3, where does the Predicted PVCashflow figure of 98.251703 come from?

PV_new = PV_old * (1-(ModD)*(i_new-i_old))

See formula 14.4.12 on page 762.

P.s. this used to be on the DP syllabus, so I spent about three days attacking all the problems in the A&D book. I recommend you spend some time getting familiar with them, come back in the next month and redo them. Then, a week before the exam, do it for a third time. The repetition is important since exam problems derived from this book will be very hard if you haven't worked the examples, easy otherwise.

[CowboyGuy]

Originally Posted by Bballry1234

PV_new = PV_old * (1-(ModD)*(i_new-i_old))

See formula 14.4.12 on page 762.

P.s. this used to be on the DP syllabus, so I spent about three days attacking all the problems in the A&D book. I recommend you spend some time getting familiar with them, come back in the next month and redo them. Then, a week before the exam, do it for a third time. The repetition is important since exam problems derived from this book will be very hard if you haven't worked the examples, easy otherwise.

I still didn't get it.

The formula 14.4.12 on Page 762 is:

Percentage change in PVCashflow = - ModDuration(i) * (i_new - i_old)

Am I missing something here?

[Bballry1234]

Originally Posted by CowboyGuy

I still didn't get it.

The formula 14.4.12 on Page 762 is:

Percentage change in PVCashflow = - ModDuration(i) * (i_new - i_old)

Am I missing something here?

Ok, let's try an example. You have a PV of cashflows = 10.5 and a modified duration of 7.65. This was all computed with i = 6%.

Now, interest rates move to 9%. You can estimate the change in the PV of cashflows by using [-7.65*(9%-6%)]=[-22.95%]. Thus, we have a 23% drop in PV, approximately.

So, our new PV = 100* (1-.23) = 77 (remember, this is just an approximation). As a sense check, increasing interest rates should decrease the PV because the discount rate is now higher.

Since ModD is only good for predicting small changes in interest rates, you might find that your actual new PV is like 70 (because 3% is a big change), but for small changes the error will be small, which is what pg 765 is showing (notice the .000004% error).

Error% = (Actual - Predicted)/Actual

make sense?

[CowboyGuy]

Originally Posted by Bballry1234

Ok, let's try an example. You have a PV of cashflows = 10.5 and a modified duration of 7.65. This was all computed with i = 6%.

Now, interest rates move to 9%. You can estimate the change in the PV of cashflows by using [-7.65*(9%-6%)]=[-22.95%]. Thus, we have a 23% drop in PV, approximately.

So, our new PV = 100* (1-.23) = 77 (remember, this is just an approximation). As a sense check, increasing interest rates should decrease the PV because the discount rate is now higher.

Since ModD is only good for predicting small changes in interest rates, you might find that your actual new PV is like 70 (because 3% is a big change), but for small changes the error will be small, which is what pg 765 is showing (notice the .000004% error).

Error% = (Actual - Predicted)/Actual

make sense?

That makes sense.

Thanks!