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Subject CS2
Risk Modelling and Survival Analysis
Core Principles

Syllabus

for the 2020 exams

20 June 2019
CS2 — Risk Modelling and Survival Analysis
Core Principles

Aim

The aim of the Actuarial Statistics 2 subject is to provide a grounding in mathematical and statistical
modelling techniques that are of particular relevance to actuarial work, including stochastic processes
and survival models and their application.

Competences

On successful completion of this subject, a student will be able to:

1 describe and use statistical distributions for risk modelling.

2 describe and apply the main concepts underlying the analysis of time series models.
3 describe and apply Markov chains and processes.
4 describe and apply techniques of survival analysis.
5 describe and apply basic principles of machine learning.

Links to other subjects

This subject assumes that the student is competent with the material covered in CS1 – Actuarial
Statistics 1 and the required knowledge for that subject.

CM1 – Actuarial Mathematics 1 and CM2 – Actuarial Mathematics 2 apply the material in this subject
to actuarial and financial modelling.

Topics in this subject are further built upon in SP1 – Health and Care Principles, SP7 – General
Insurance Reserving and Capital Modelling Principles, SP8 – General Insurance Pricing Principles
and SP9 – Enterprise Risk Management Principles.

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Syllabus topics

1 Random variables and distributions for risk modelling (20%)

2 Time series (20%)
3 Stochastic processes (25%)
4 Survival models (25%)
5 Machine learning (10%)

The weightings are indicative of the approximate balance of the assessment of this subject between
the main syllabus topics, averaged over a number of examination sessions.

The weightings also have a correspondence with the amount of learning material underlying each
syllabus topic. However, this will also reflect aspects such as:

• the relative complexity of each topic, and hence the amount of explanation and support required
for it.

• the need to provide thorough foundation understanding on which to build the other objectives.

• the extent of prior knowledge which is expected.

• the degree to which each topic area is more knowledge or application based.

Skill levels

The use of a specific command verb within a syllabus objective does not indicate that this is the only
form of question which can be asked on the topic covered by that objective. The Examiners may ask
a question on any syllabus topic using any of the agreed command verbs, as are defined in the
document ‘Command verbs used in the Associate and Fellowship written examinations’.

Questions may be set at any skill level: Knowledge (demonstration of a detailed knowledge and
understanding of the topic), Application (demonstration of an ability to apply the principles underlying
the topic within a given context) and Higher Order (demonstration of an ability to perform deeper
analysis and assessment of situations, including forming judgements, taking into account different
points of view, comparing and contrasting situations, suggesting possible solutions and actions, and
making recommendations).

In the CS subjects, the approximate split of assessment across the three skill types is 20%
Knowledge, 65% Application and 15% Higher Order skills.

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Detailed syllabus objectives

1 Random variables and distributions for risk modelling (20%)

1.1 Loss distributions, with and without risk sharing

1.1.1 Describe the properties of the statistical distributions which are suitable for
modelling individual and aggregate losses.

1.1.2 Explain the concepts of excesses (deductibles), and retention limits.

1.1.3 Describe the operation of simple forms of proportional and excess of loss
reinsurance.

1.1.4 Derive the distribution and corresponding moments of the claim amounts
paid by the insurer and the reinsurer in the presence of excesses
(deductibles) and reinsurance.

1.1.5 Estimate the parameters of a failure time or loss distribution when the data
is complete, or when it is incomplete, using maximum likelihood and the
method of moments.

1.1.6 Fit a statistical distribution to a dataset and calculate appropriate goodness

of fit measures.

1.2 Compound distributions and their applications in risk modelling

1.2.1 Construct models appropriate for short term insurance contracts in terms of
the numbers of claims and the amounts of individual claims.

1.2.2 Describe the major simplifying assumptions underlying the models in 1.2.1.

1.2.3 Define a compound Poisson distribution and show that the sum of
independent random variables each having a compound Poisson
distribution also has a compound Poisson distribution.

1.2.4 Derive the mean, variance and coefficient of skewness for compound
binomial, compound Poisson and compound negative binomial random
variables.

1.2.5 Repeat 1.2.4 for both the insurer and the reinsurer after the operation of
simple forms of proportional and excess of loss reinsurance.

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1.3 Introduction to copulas

1.3.1 Describe how a copula can be characterised as a multivariate distribution

function which is a function of the marginal distribution functions of its
variates, and explain how this allows the marginal distributions to be
investigated separately from the dependency between them.

1.3.2 Explain the meaning of the terms dependence or concordance, upper and
lower tail dependence; and state in general terms how tail dependence can
be used to help select a copula suitable for modelling particular types of
risk.

1.3.3 Describe the form and characteristics of the Gaussian copula and the
Archimedean family of copulas.

1.4 Introduction to extreme value theory

1.4.1 Recognise extreme value distributions, suitable for modelling the

distribution of severity of loss and their relationships

1.4.2 Calculate various measures of tail weight and interpret the results to
compare the tail weights.

2 Time series (20%)

2.1 Concepts underlying time series models

2.1.1 Explain the concept and general properties of stationary, I(0), and
integrated, I(1), univariate time series.

2.1.2 Explain the concept of a stationary random series.

2.1.3 Explain the concept of a filter applied to a stationary random series.

2.1.4 Know the notation for backwards shift operator, backwards difference
operator, and the concept of roots of the characteristic equation of time
series.

2.1.5 Explain the concepts and basic properties of autoregressive (AR), moving
average (MA), autoregressive moving average (ARMA) and autoregressive
integrated moving average (ARIMA) time series.

2.1.6 Explain the concept and properties of discrete random walks and random
walks with normally distributed increments, both with and without drift.

2.1.7 Explain the basic concept of a multivariate autoregressive model.

2.1.8 Explain the concept of cointegrated time series.

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2.1.9 Show that certain univariate time series models have the Markov property
and describe how to rearrange a univariate time series model as a
multivariate Markov model.

2.2 Applications of time series models

2.2.1 Outline the processes of identification, estimation and diagnosis of a time

series, the criteria for choosing between models and the diagnostic tests
that might be applied to the residuals of a time series after estimation.

2.2.2 Describe briefly other non-stationary, non-linear time series models.

2.2.3 Describe simple applications of a time series model, including random

walk, autoregressive and cointegrated models as applied to security prices
and other economic variables.

2.2.4 Develop deterministic forecasts from time series data, using simple
extrapolation and moving average models, applying smoothing techniques
and seasonal adjustment when appropriate.

3 Stochastic processes (25%)

3.1 Describe and classify stochastic processes.

3.1.1 Define in general terms a stochastic process and in particular a counting

process.

3.1.2 Classify a stochastic process according to whether it:

• operates in continuous or discrete time

• has a continuous or a discrete state space
• is a mixed type

and give examples of each type of process.

3.1.3 Describe possible applications of mixed processes.

3.1.4 Explain what is meant by the Markov property in the context of a stochastic
process and in terms of filtrations.

3.2 Define and apply a Markov chain.

3.2.1 State the essential features of a Markov chain model.

3.2.2 State the Chapman-Kolmogorov equations that represent a Markov chain.

3.2.3 Calculate the stationary distribution for a Markov chain in simple cases.

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3.2.4 Describe a system of frequency based experience rating in terms of a

Markov chain and describe other simple applications.

3.2.5 Describe a time-inhomogeneous Markov chain model and describe simple

applications.

3.2.6 Demonstrate how Markov chains can be used as a tool for modelling and
how they can be simulated.

3.3 Define and apply a Markov process.

3.3.1 State the essential features of a Markov process model.

3.3.2 Define a Poisson process, derive the distribution of the number of events in
a given time interval, derive the distribution of inter-event times, and apply
these results.

3.3.3 Derive the Kolmogorov equations for a Markov process with time
independent and time/age dependent transition intensities.

3.3.4 Solve the Kolmogorov equations in simple cases.

3.3.5 Describe simple survival models, sickness models and marriage models in
terms of Markov processes and describe other simple applications.

3.3.6 State the Kolmogorov equations for a model where the transition intensities
depend not only on age/time, but also on the duration of stay in one or
more states.

3.3.7 Describe sickness and marriage models in terms of duration dependent

Markov processes and describe other simple applications.

3.3.8 Demonstrate how Markov jump processes can be used as a tool for
modelling and how they can be simulated.

4 Survival models (25%)

4.1 Explain concept of survival models.

4.1.1 Describe the model of lifetime or failure time from age x as a random
variable.

4.1.2 State the consistency condition between the random variable representing
lifetimes from different ages.

4.1.3 Define the distribution and density functions of the random future lifetime,
the survival function, the force of mortality or hazard rate, and derive
relationships between them.

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4.1.4 Define the actuarial symbols t px and t qx and derive integral formulae for
them.

4.1.5 State the Gompertz and Makeham laws of mortality.

4.1.6 Define the curtate future lifetime from age x and state its probability
function.


4.1.7 Define the symbols ex and e x and derive an approximate relation between
them. Define the expected value and variance of the complete and curtate
future lifetimes and derive expressions for them.

4.1.8 Describe the two-state model of a single decrement and compare its
assumptions with those of the random lifetime model.

4.2 Describe estimation procedures for lifetime distributions.

4.2.1 Describe the various ways in which lifetime data might be censored.

4.2.2 Describe the estimation of the empirical survival function in the absence
of censoring, and what problems are introduced by censoring.

4.2.3 Describe the Kaplan-Meier (or product limit) estimator of the survival
function in the presence of censoring, compute it from typical data and
estimate its variance.

4.2.4 Describe the Nelson-Aalen estimator of the cumulative hazard rate in the
presence of censoring, compute it from typical data and estimate its
variance.

4.2.5 Describe models for proportional hazards, and how these models can be
used to estimate the impact of covariates on the hazard.

4.2.6 Describe the Cox model for proportional hazards, derive the partial
likelihood estimate in the absence of ties, and state the asymptotic
distribution of the partial likelihood estimator.

4.3 Derive maximum likelihood estimators for transition intensities.

4.3.1 Describe an observational plan in respect of a finite number of individuals

observed during a finite period of time, and define the resulting statistics,
including the waiting times.

4.3.2 Derive the likelihood function for constant transition intensities in a Markov
model of transfers between states given the statistics in 4.3.1.

4.3.3 Derive maximum likelihood estimators for the transition intensities in 4.3.2.
and state their asymptotic joint distribution.

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4.3.4 State the Poisson approximation to the estimator in 4.3.3 in the case of a
single decrement.

4.4 Estimate transition intensities dependent on age (exact or census)

4.4.1 Explain the importance of dividing the data into homogeneous classes,
including subdivision by age and sex.

4.4.2 Describe the principle of correspondence and explain its fundamental

importance in the estimation procedure.

4.4.3 Specify the data needed for the exact calculation of a central exposed to
risk (waiting time) depending on age and sex.

4.4.4 Calculate a central exposed to risk given the data in 4.4.3.

4.4.5 Explain how to obtain estimates of transition probabilities, including in the

single decrement model the actuarial estimate based on the simple
adjustment to the central exposed to risk.

4.4.6 Explain the assumptions underlying the census approximation of waiting

times.

4.4.7 Explain the concept of the rate interval.

4.4.8 Develop census formulae given age at birthday where the age may be
classified as next, last, or nearest relative to the birthday as appropriate,
and the deaths and census data may use different definitions of age.

4.4.9 Specify the age to which estimates of transition intensities or probabilities in

4.4.8 apply.

4.5 Graduation and graduation tests

4.5.1 Describe and apply statistical tests of the comparison crude estimates with
a standard mortality table testing for:

• the overall fit

• the presence of consistent bias
• the presence of individual ages where the fit is poor
• the consistency of the “shape” of the crude estimates and the standard
table

For each test describe:

• the formulation of the hypothesis

• the test statistic
• the distribution of the test statistic using approximations where
appropriate

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• the application of the test statistic

4.5.2 Describe the reasons for graduating crude estimates of transition intensities
or probabilities, and state the desirable properties of a set of graduated
estimates.

4.5.3 Describe a test for smoothness of a set of graduated estimates.

4.5.4 Describe the process of graduation by the following methods, and state the
advantages and disadvantages of each:

• parametric formula
• standard table
• spline functions

(The student will not be required to carry out a graduation.)

4.5.5 Describe how the tests in 4.5.1 should be amended to compare crude and
graduated sets of estimates.

4.5.6 Describe how the tests in 4.5.1 should be amended to allow for the
presence of duplicate policies.

4.5.7 Carry out a comparison of a set of crude estimates and a standard table, or
of a set of crude estimates and a set of graduated estimates.

4.6 Mortality projection

4.6.1 Describe the approaches to the forecasting of future mortality rates based
on extrapolation, explanation and expectation, and their advantages and
disadvantages.

4.6.2 Describe the Lee-Carter, age-period-cohort, and p-spline regression

models for forecasting mortality.

4.6.3 Use an appropriate computer package to apply the models in 4.6.2 to a

suitable mortality dataset.

4.6.4 List the main sources of error in mortality forecasts.

5 Machine learning (10%)

5.1 Explain and apply elementary principles of machine learning

5.1.1 Explain the main branches of machine learning and describe examples of
the types of problems typically addressed by machine learning.

5.1.2 Explain and apply high-level concepts relevant to learning from data.

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5.1.3 Describe and give examples of key supervised and unsupervised machine
learning techniques, explaining the difference between regression and
classification and between generative and discriminative models.

5.1.4 Explain in detail and use appropriate software to apply machine learning
techniques (e.g. penalised regression and decision trees) to simple
problems.

5.1.5 Demonstrate an understanding of the perspectives of statisticians, data

scientists, and other quantitative researchers from non-actuarial
backgrounds.

Assessment

Combination of a one hour forty five minute computer based data analysis and statistical modelling
assignment, and a three hour fifteen minute written examination.

END

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