UNIVERSITY OF ILLINOIS AT URBANA-CHAMPAIGN Actuarial Science Program DEPARTMENT OF MATHEMATICS

Math 478 / 568 Actuarial Modeling Prof. Rick Gorvett Spring 2013

Homework Assignment # 3 (max. points = 10) Due at the beginning of class on Tuesday, February 12, 2013 You are encouraged to work on these problems in groups of no more than 3 or 4. However, each student must hand in her/his own answer sheet. Please show your work enough to show that you understand how to do the problem and circle your final answer. Full credit can only be given if the answer and approach are appropriate. Please provide answers to two decimal places. Each problem is worth one point. Note: Homework assignments are due at the beginning of the class. If you arrive at the class after it has started, you must hand in your assignment upon entering the classroom. Assignments will not be accepted at the end of the class period. Note: For many problems below, formulas in Appendix A of the course textbook are useful. (The Appendix is also available online at http://www.soa.org/files/pdf/edu-2009-fall-exam-ctable.pdf .)

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Let ground-up loss random variable X have an exponential distribution with a mean of 1,000. An insurer writes a policy on X, with a deductible of 250 and a policy limit (maximum insurer payment per claim) of 2,250. Find the expected insurer loss per payment. An annual claim count distribution N can be expressed as a mixed Poisson distribution: the mean of the Poisson distribution is itself distributed as an exponential distribution with a mean of 4. Determine the probability that there will be 2 or more claims in a year. Consider loss random variable X, which is a two-point mixture of two-parameter Pareto distributions. Distribution 1 has parameters = 5 and = 4,000. Distribution 2 has parameters = 4 and = 12,000. The mixture coefficients (or probabilities) are a1 0.75 and a 2 0.25 . Find the probability that X produces a loss greater than 5,000. Let X be a single-parameter Pareto distribution: f ( x) 3.50 x 4.5 , where x > 1. Suppose that Z represents a loss random variable such that every possible loss X is inflated by 30% -- i.e., Let Z = 1.30X. Find P[2<Z< 3]. Consider the following mixing situation: Loss process X follows an exponential distribution with a mean of . The mean itself is uncertain, but is believed to follow a
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gamma distribution with parameters = 2,500 and = 3. Find the coefficient of variation of this mixed loss distribution. (6) Three independent random variables X1, X2, and X3 have the following probability functions: f2(x) f3(x) x f1(x) 0 0.50 0.60 0.70 1 0.40 0.40 0.30 2 0.10 0.00 0.00 Determine the probability function of S = X1 + X2 + X3 , and find the coefficient of variation of aggregate losses S. (7) Frequency random variable N has a Poisson distribution with a mean of 3. Individual claim severity random variable X has the following distribution: x 100 200 300 f ( x) 0.6 0.3 0.1

Determine the probability that aggregate claims will be exactly 300. (8) An insurer faces an annual aggregate loss process characterized by Poisson frequency (with mean 75) and individual claim severity which follows a gamma distribution with parameters = 3 and = 1,000. Use a normal approximation to estimate the probability that annual aggregate losses will exceed 300,000. Let N be the frequency of insurance claims per year. Let X be the individual claim severity distribution. Suppose that N follows a negative binomial distribution with parameters r = 3 and = 5, and that X follows a two-parameter Pareto distribution with = 4 and = 4,500. Using a normal approximation, find the 95th percentile of the annual aggregate loss distribution. Suppose that the premium on an insurance policy is determined as expected annual aggregate losses, plus expenses (equal to 30% of expected annual aggregate losses), plus a risk load (equal to 20% of the standard deviation of annual aggregate losses). Assume that the annual number of claims is Poisson with a mean of 100, and the individual claim sizes have a continuous uniform distribution from 0 to 100,000. Find the indicated premium.

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