MTH6100: Actuarial Mathematics

Rosemary J. Harris School of Mathematical Sciences

Notes corresponding to undergraduate lecture course Spring Term 2011

Chapter 0 Prologue
0.1 What is an actuary?

An actuary is someone who expects everyone to be dead on time. is one denition you can nd on the internet.1 In fact, actuaries do much more than deal with the probabilities of people dying! In short, they use nancial and statistical theories to quantify and reduce risk in all areas of business. Traditionally actuaries specialize in consultancy, investment, life and general insurance or pensions. However, their analytical skills are also increasingly valuable in other areasafter all, risk management is of wide importance in nancially turbulent times. Actuaries are highly-regarded and (well-paid!) professionals. For more details of career paths, etc., see http://www.actuaries.org.uk/becoming-actuary/.

0.2

About this course

The idea of this course is to introduce you to some of the basic mathematical ideas used in actuarial work. MTH6100 is designed for second or third year undergraduates and assumes a background in basic Calculus and Probability.2 All practicalities about the course itself (timetable, coursework, assessment details), etc., can be found on the course website http://www.maths.qmul.ac.uk/harris/MTH6100. Important announcements and corrections will also be posted there. The course uses familiar mathematical concepts (e.g., geometric series, probability distributions) but in an unfamiliar context. I hope you will be interested to see how maths you already know can be used eectively in the real world. However, one of the problems in applying maths to a dierent eld is that you often have to learn new terminology, notation, etc. in order to communicate with
1 A quick search with Google yields a variety of other humorous, and not-so-humorous, denitions as well as more useful career descriptions. 2 Formal prerequisites are Calculus II and Introduction to Probability / Probability I; contact the lecturer if you have diculty meeting these.

0.3 About these notes

specialists in that area. This is certainly the case here; indeed you will soon be introduced to a whole zoo of complicated actuarial symbols and new vocabulary. It is crucial for success that you learn this new language so that the familiar mathematical objects do not become lost in the fog of unfamiliar actuarial terminology. The course has three main chapters: 1. Compound interest: Here we will cover various (interrelated) ways to quantify how compound interest is added to a loan/investment. You will learn how to calculate accumulations given the force of interest (or related parameters) and how to deal with series of payments, in particular annuitiescertain and perpetuities. 2. Life tables and life-table functions: Life tables are the actuarys basic tool. You will learn how to interpret them in order to nd various probabilities related to life and death. 3. Life insurance and related functions: Here we will combine material from the rst two chapters to deal with situations involving payments (with compound interest) whose value and/or timing may depend on a persons survival or death! Life insurance is the classic example here.

0.3

About these notes

These notes will cover the material in roughly the same order as the lectures but their style will probably be slightly dierent. In particular, the printed notes may contain some longer explanations and extra examples which time prevents me covering in class. The lectures, however will be important for emphasizing the main points and giving exam tipsI strongly recommend that you attend and take your own notes! The printed notes will be updated roughly once per week (after the relevant lectures) so that by the end of term they provide a fairly comprehensive treatment of the course material. To help you with revision, all important new actuarial terms will be printed in bold. You must be sure to understand what these mean, both in everyday language (could you explain them to your grandmother or your next-door neighbour?) and in terms of the associated mathematical formulation. The notes will also contain a number of examples and exercises. For the former you will nd full details of the working; for the latter (usually) only the answers. A good way to check your own understanding would be to read the text and try the associated exercises (contact me if you have any diculty getting the stated answers). I intend the unstarred exercises to correspond roughly to the

0.4 Books and tables

Key Objectives for the course (i.e., everyone should be able to do them); starred exercises will be somewhat harder and should be attempted by those aiming for a high grade.

0.4

Books and tables

I will assume you have access to the following two life tables: English Life Table No 12, A1967-70 mortality table for assured lives. These will be distributed in lectures and are also freely available from
http://www.actuaries.org.uk/sites/all/files/documents/pdf/fullvolume.pdf.

You will be given copies in the nal exam. More up-to-date tables should be available in the college library; you might wish to check out how much your life expectancy has improved since the 1977 tables... The course is designed to be fairly self-contained and does not follow any one textbook. However, you may nd the following useful for background reading: J. J. McCutcheon & W. F. Scott An Introduction to the Mathematics of Finance (Butterworth-Heinemann); cited in these notes as [MS86]. A. Neill Life Contingencies (Heinemann); cited in these notes as [Nei77]. N. L. Bowers, H. U. Gerber, J. C. Hickman, D. A. Jones and C. J. Nesbitt Actuarial Mathematics (Society of Actuaries); cited in these notes as [BGH+ 97].

0.5

Acknowledgements

Large sections of these notes are based on the Actuarial Statistics notes of Prof. B. Khoruzhenko and I am greatly indebted to him as well as another previous lecturer, Dr L. Rass. Thanks are also due to the 2009 and 2010 cohorts of students and teaching assistants who pointed out many typos in earlier drafts of this manuscript. Undoubtedly some errors remainif you nd any, please contact me at rosemary.harris@qmul.ac.uk.