CONTENTS; INSURANCE COMPANIES INVESTMENT COMPANIES PENSION FUNDS FOUNDATIONS INSURANCE COMPANIES Insurance companıes promise to pay specıfıed sums contıgent on the occurance of future events,such as death or an automobile accident. Insurance companies are risk bearers. They accept or underwrite the risk in return for an insurance premium paid by the polıcyholder or owner of the policy. A major task for the ınsurance company is deciding which applications for ınsurance they should accept and which ones should reject.they must also determine how much to charge for the insurance if they accept the applicatıons .this decısıons called the underwrıtıng process. Two sources of income for insurance companies ; - include the initial underwriting income, - investment income that occurs over time. TWO MAJOR FORMS OF LIFE INSURANCE COMPANIES Stock insurance company •Is smilar in structure to any corporatıon or public company Mutual insurance company •Have no stock and no external owners TYPES OF INSURANCE LIFE INSURANCE HEALTH INSURANCE PROPERTY AND CASUALTY INSURANCE LIABILITY INSURANCE DISABILITY INSURANCE LONG TERM CARE INSURANCE STRUCTURED INSURANCE INVESTMENT INSURANCE ANNUITY The risk insured against is death.The ınsurance company pays the beneficiary of the life insurance policy in the event of the death of the insured. HEALTH INSURANCE ; The risk insured is the cost of medical treatment for the ınsured. PROPERTY AND CASUALTY INSURANCE; The risk insured by property and casualty insurance companies is the damage to various types of property. the major types of such ınsurance are; 1-a house and its content s agaınst risks such as fire ,flood 2- vehicles against collision,theft,and other damage LIABILITY INSURANCE; the risk insured againist is litigation ,the risk of lawsuit the insured due to actıons by the insured or others. DISABILITY INSURANCE; insures againist the inability of an employed person to earn an income in either his or her own occupation or any occupatiıon. INVESTMENT-ORIENTED PRODUCTS;The first major devoloped by life insurance companies was the guaranteed investment contract (GIC). ANNUITY; another insurance company investment product is annuity. An annuıty is often described as ‘a mutual fund in an insurance wrapper. INSURANCE COMPANIES VERSUS TYPES OF PRODUCTS In concept, these varıous types of ınsurance could be combıned in different ways in actual companies . Tradıtıonally ,however ,they generally are packaged in companies in smilar ways. Most commonly ,life insurance and health insurance occur together in in a life and health insurance company. İnsurance for property and casualty is combined in a P&C insurance company. Companies that provide insurance in both insurance products are called multiline insurance. TYPES OF LIFE INSURANCE 1-TERM INSURANCE ; is pure life insurance.if the insured dies while the polıcy receıves the death benefit. İf the insurance does not die within the period , the policy is invalid and hold no value. 2- CASH VALUE OR PERMANENT LIFE INSURANCE ; a broad classification of life insurance includes cash-value or permanent or investment-type life insurance. A major advantage of this and other insurance products that offer a cash or investment value is that the inside buildup is not subject to taxatıon. LIFE INSURANCE AND LIFE INSURANCE PRODUCTS ARE COMPLEX . Classification of cash value ınsurance Guaranteed cash value policies Variable life policies Fixed premium Whole life insurance Variable life insurance Flexible premium Universal life insurance Variable universal insurance 3- UNIVERSAL LIFE: the key element of unıversal life is the flexible of the premium for the polıcyownerthis flexible premium concept seperates pure insurance protection from the investment element of the policy. 4-VARIABLE UNIVERSAL LIFE INSURANCE: combine features of variable life and universal life policies FUNDAMENTALS OF THE INSURANCE INDUSTRY A fundamental aspect of the insurance industry results from the relatıonship between the revenues and costs. 1- the timing and magnitude of the payments are much less certain for an insurance company . 2- the long lag between the receipts and payments for an insurance company,which introduces the importance of the investment portfolio. STRUCTURE OF INSURANCE COMPANY 1- MANUFACTURER AND GUARANTOR 2- INVESTMENT COMPANY 3- DISTRIBUTION COMPONENT INSURANCE COMPANY INVESTMENT STRATEGIES In general , the charecteristics of insurance company investment portfolios should reflect their liabilities ,or the insurance products they underwrite. THE VARIOUS TYPES OF INSURANCE POLİCİES DİFFER İN FOLLOWİNG WAYS: The expected time at which the avarage payment will be made by ınsurance company The satatistical or actuarial accuarcy of estimates of when the eventinsures againist will occur and the amount of the payment. Other factors . Investment Companies DEFINITION: Investment companies are financial intermediaries that sell shares to public and invest the proceeds in a diversified portfolio of securities. TYPES OF INVESTMENT COMPANIES Open-end investment companies Closed-end investment companies Unit investment trust OPEN-ENDED INVESTMENT COMPANIES most known as mutual funds Price based on NAV continuously offer new shares to the public capitalization is open NET ASSET VALUE (NAV) Per-share market value of mutual fund’s portfolio: NAV = (total assets – total liabilities) -----------------------------------number of shares outstanding CLOSED-END INVESTMENT COMPANİES Trade OTC) in secondary market (exchanges or No prospectur Rarely trades at NAV Usually at discount, but occasionally at premium Embedded tax liabilities Some of holdings may not be marketable Conversion to open-end form May produce windfall gains for investors Sometimes have exit fees for those redeeming immediately after conversion UNIT INVESTMENT TRUSTS (UITS) Unmanaged, self-liquidating Most UITs are debt (primarily short-term) but some are equity (may have liquidation date for portfolio) Some UITs are equity Liquidation date Example: Dogs of the Dow portfolios ADVANTAGES OF UITS Convenience Low cost for holding diversified portfolio Stable portfolio Tax efficiency No or minimal management fees DISADVANTAGES OF UITS May not find UIT to match investment goal Front-end loads can be hefty Lack of resale market FUND SALES CHARGES AND ANNUAL OPERATING EXPENSES Investors in mutual funds bear two types of costs. Sales Charges (shareholders fee) : this cost is ‘one-time’ charge debited to the investor for a specific transaction such aas a purchase, redemtion, or exchange. Expence ratio (operating expence): This cost covers the funds expences the largest of which is for invesment manegement.This charge is imposed annualy and occurs on all funds and for all types of disribution. TYPES OF FUNDS Passive (index) funds :Mutual fund that owns a portfolio of either common stock or bonds that replicates a major market index, such as the S&P 500 or Lehman Brothers Aggregate Bond Index Index funds are low-cost funds that are especially useful in passive investment strategies in which the investor is satisfied to match performance of index. Active Funds:attemt to out perform an index and other funds by actively trading the fund portfolio. FAMILY OF FUNDS Group of mutual funds owned and marketed by same company Advantages: Exchange privilege Convenience of dealing with one company TAXATION OF MUTUAL FUND no corporate income tax liability it pays at least 90% of its net income to shareholder Two kinds of payments to investors: one for income another for net capital gains realized PENSION FUNDS WHAT DOES PENSION FUND MEAN? Pension funds are commonly run by some sort of financial intermediary for the company and its employees, although some larger corporations operate their pension funds in-house. Pension funds control relatively large amounts of capital and represent the largest institutional investors in many nations. TYPES OF PENSION PLANS Defined-benefit plan Annual contributions are determined by the benefits “defined” in the plan paid at retirement If value of pension assets exceeds (over funded) current and future benefits owed, employer may Reduce future contributions Distribute surplus to shareholders Occurred during stock and bond boom of the 1990’s Defined-contribution plan Provides benefits determined by the accumulated contributions and the fund’s investment performance “Contributions” are designated in plan, not amounts available at retirement Firm knows with certainty the amount of the contribution Provides uncertain benefits to participants HYBRID PENSION PLAN Defined benefit pension plans are cumbersome for the plan sponsor to administer and are not portable from one job to another by employees in an increasingly mobile workforce. Defined contribution plans put the investment choices and investment risk on the employee. In response to these and other limitations forms of hybrid pension plans, or combinations of defined benefit and defined contribution plans developed. CASH BALANCE PENSION PLAN A cash balance pension plan is basically a defined benefit with some of the features of a defined contribution plan. A cash balance plan defines future pension benefits, not employer contributions. Retirement benefits are based on a fixedamount annual employer contribution and a guaranteed minimum annual investment return. REGULATION Regulations vary depending on the type of plan—defined benefit more regulated Criticism of plans led to regulation Unfair treatment in terms of vesting or service requirements needed to qualify for a pension Some plans were underfunded and could not pay the benefits they promised Employees did not benefit when plans had excess earnings but received reduced benefits when plans performance faltered PENSION REGULATION Employee Retirement Income Security Act of 1974 (ERISA) Funding standards Fiduciary standards Vesting standards Pension Benefit Guarantee Corporation Enforced by U.S. Department of Labor Many pension plans cancelled after ERISA after funding required PENSION REGULATION The Pension Benefit Guaranty Corporation Intended to provide insurance on pension plans Federally chartered agency that guarantees beneficiaries of defined contribution plans get benefits Receives no government support Funds come from annual premiums and other income from active pension plans Monitors plans Takes over failed plans (bankruptcy of firm) and pays minimum benefits to beneficiaries PENSION REGULATION Accounting regulations Allow companies to more quickly recognize gains and losses May increase the volatility of funds’ returns Rules may affect portfolio composition Underfunded plans shown as a liability on the balance sheet Volatility of returns also depends on the composition of the portfolio MANAGERS OF PENSION FUNDS A plan sponsor chooses one of the following to manage the defined benefit pension assets under its control: 1) use in-house staff to manage all the pension assets itself 2) distribute the pension assets to one or more money management firms to manage 3) combine alternatives 1 and 2. In addition to money managers, advisors called plan sponsor consultants provide a number of services to pension plan sponsors, including the following: Develop plan investment policy and asset allocation among the major asset classes Provide actuarial advice Design benchmarks against which the fund’s money managers will be measured Provide specialized research. FOUNDATIONS Foundations are another group of institutions with funds to invest in financial markets. These institutions were mainly set up by wealthy individuals and families for the benefit of universities, private schools, hospitals, religious institutions, museums, and other institutions. The managers of a foundation’s funds invest in long-term assets with the primary goal of safeguarding the principal of the fund.