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Are model portfolios an idea that is transferable to insurance?

Russell Hutchinson thinks a concept used in the investment world could well be successful in insurance.

Monday, December 7th 2020, 6:00AM

In the investment world model portfolios are a common way to quickly and easily translate a strategy from the general situation to a specific one.

A portfolio approach for difference situations (combinations of risk tolerance and investment time-horizon) are developed and tested extensively.

Advisers then do more to familiarise themselves with the solution suitability and methods for assessing which portfolio options are most applicable.

The insurance advice world tends to have a more individualised approach – both considering the individual client and the individual adviser - to recommending the ideal cover mix.

In some cases, tools such as capital needs analysis are applied through a variety of fact-finds and needs analysis tools.

Other advisers adopt a method of simply asking the client to prioritise and choose values - not forming a strong view themselves.

Another group may use tools which deploy concepts such as preserving levels of pre-catastrophe consumption in a post-catastrophe family or business.

Each have their strong points and weaknesses.

Whichever method you choose there is an engagement cost and a calculation cost that must be considered.

Model portfolios tend to simplify the advice process.

In the investment world the focus has been on assessing tolerance for risk and then assigning an appropriate portfolio. Here is what Liz Koh had to say about the use of model portfolios in the investment world:

“It simplifies everything from an administrative point of view. It’s also much more cost-effective to have model portfolios than customised portfolios. It cuts down the paperwork and takes away the risk for the adviser to make bad choices for their client.”

Could such an approach be translated into an insurance context?

A client could be assessed for risk tolerance and assigned to a category – based on major factors such as age, stage, income, dependents – and then a model insurance portfolio could be identified to meet those requirements.

Initially I thought of this as something of a sloppy short-cut to an ideal answer.

But the rigour of, say, a great capital needs analysis calculation is often thrown out when the client starts hacking at the plan to hit a budget envelope.

A great model portfolio, on the other hand, can have had substantially more rigorous back-testing in terms of real claims outcomes – much the same way a model investment portfolio can be back-tested for performance and risk.

Actual risks in individual calculation – due to human error, for example, or lack of client interest – can also be substantially reduced.

Model insurance portfolios are not a panacea, but they do at least deserve some consideration.

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