Preface

Hello everyone and welcome to the Fall 2016 section of ACT 2210: Introduction to Risk
Management! Alongside Dr. Lysa Porth, I will be introducing you to the fantastic world
of risk management by exposing you to the niche industry of crop insurance. I had the
pleasure of taking this course with Lysa in Fall 2013 when I was doing my undergrad,
and speaking from experience I can tell you that this course is going to be quite different
from other courses youve taken at The U of M and is very different from other courses
in the actuarial department. All too often actuarial students get caught up in formulas
and theories, and we forget that these concepts can actually be applied to solving issues
that occur in the real world. So rather than focusing on math and formulas, the goal of
this class is to give you experience tackling real world problems in the realm of actuarial
research.
Three years ago when I took this course, it changed the direction that my career and life
were going, and I hope that it does the same for at least one of you. The world of actuarial
science does not begin and end with the companies who recruit at the University, and I
hope that this course will open your eyes to some of the hundreds of different paths that
your career can take. Good luck to all of you, and I look forward to seeing what each of
you can accomplish over the next four months.
Yours truly,
Daniel Turenne

The Paper
You will be divided into groups of 5 in order to research and write a paper on the subject
of agricultural risk management. This paper will include a review of past literature as
well as an original analysis performed by you, using weather data from the province of
Ontario. At the end of the semester you will present your paper to the other members
of the class, as well as a panel of experts invited by Lysa. Myself, Lysa, and the expert
panel will decide which of the papers is the most well written, and the winning group
will be invited to submit their paper for the chance to present at the 2017 International
Agricultural Risk, Finance, and Insurance Conference (IARFIC). IARFIC is a conference
that was first organized by Lysa in 2012 to bring together academics, goverments, and
private insurance firms from around the world to discuss issues that pertain specifically
to agricultural risk managemnent. This year we are very excited to announce that IARFIC
will be taking place in Paris, France, from June 7th to June 9th .
Concerning the topic of your paper, you are going to be studying a very hot button issue
in agricultural risk management: weather-based index insurance! There are several problems with the traditional insurance model when it is applied to crops, so many professionals are now considering the possibility of basing their insurance policies on weather
events like rainfall or temperature. These types of contracts are particularly susceptible
to the problem of basis risk, and this is what you will be examining specifically. Basis risk
is defined as the difference in between the loss experienced by the farmer and the payout that they receive. In a nutshell, this means that a farmer may receive an indemnity
without experiencing a loss or they might experience a loss without receiving indemnity.
You will be given a data set with weather observations from 1997-2004 that were recorded
in Ontario. In addition you will also have a data set which includes the reported yields
from forage farms across the province. Using these data sets you will design a weather
based insurance index and use it to examine the problem of basis risk. The following are
some examples of how you might examine basis risk. These are only suggestions, please
feel free to come up with your own original ideas:
1. Compare different spatial interpolation techniques to determine if any one of them
is more susceptible to basis risk. Some of these techniques include nearest neighbor,
inverse distance weighting, regression, and regression-based inverse distance weighting. These techniques are used to estimate weather conditions at unobserved locations
using observations from surrounding weather stations, and some of them may be less
accurate then others.
2. Compare the impact of using different numbers of weather stations in the interpolation process. The methods listed above can be implemented in many different ways,
from using only the closest weather station to using every weather station in the sample. Calculate your index using different numbers of weather stations to determine
how this impacts the amount of basis risk in the model.

3. Design a cumulative insurance index (cumulative rainfall or cumulative growing degree days) and examine the impact of calculating indemnities at different times during
the growing season. Does the index perform better when indemnities are calculated at
the beginning of June as opposed to the end of June? This can be broken down week
by week.
4. The weather data set includes observations for both temperature and rainfall. Compare the performance of indices that are based on both of these variables to determine
which is the best variable for designing weather-based index insurance. If you are feeling ambitious you can try to think of an index which incorporates both temperature
and rainfall to determine if this improves the performance of the index.
5. Only consider one variable (temperature or rainfall) and design several different indices to determine the best way to use the information that we have. For example,
use temperature data to design indices based on growing degree days, cooling degree
days, and heating degree days and compare the performance of each.

Using R
In order to do any meaningful analysis for your research paper, it will be necessary to
learn about programming. You may use any programming language you wish, however
the R programming language has many packages specifically designed for the types of
problems we will be tackling, is available for free, and has a wealth of online resources
that are also available for free. To begin working in R, follow these steps:
Windows users should visit cran.r-project.org/bin/windows/base/old/3.2.2/ and
download R-3.2.2.
Mac users should visit cran.r-project.org/bin/macosx/old/ and download R-3.2.2.
Visit www.rstudio.com and download the free version of the RStudio IDE for the
platform of your choice. RStudio is the program you will use to write your R code.
Please make sure that you do not download R-3.3.1 since some of the packages we will use
are not implemented in this version of R yet. I would encourage each of you to download
this software and watch some intro tutorials on youtube in order to become familiar with
the language and some of the basics of programming. The only way to become more
comfortable with coding is to practice, and this is a skill which will be extremely valuable
throughout your career.
No experience with programming? Please dont panic. The programming skills required
for this project will be very basic, and I will be giving several demonstrations in class as
well as scheduling time to meet with each group to help you with your code. Computer
science and programming skills are one of the most important skills that an actuary (Or
any business professional for that matter) can possess, so please take this opportunity to
familiarize yourself with the skill as much as possible, if only so you have an extra line to
add to your resume.

Using LATEX
LATEX (pronounced lay-tech not lay-tex) is a word processing software that is extremely
popular with academics and scientists around the world. The main advantage of using
this software over something like Microsoft Word is the ease of typing complex mathematical expressions and including them in your document. Using LATEX, a formula like
this is very simple to type:
Z

x2 dx

For your research paper you are permitted to use any word processor you wish, however
taking the time to learn LATEX can save you a lot of time when it comes to typing formulas,
4

organizing references, and dividing your paper into different sections. Also, in the future,
your statistics and actuarial professors will forever be grateful if you make the effort to
type out all of your assignments, so this is a good skill to learn. If you want to use LATEX,
follow these steps:
Windows users should visit miktex.org/download and download and run the Basic
MiKTeX installer under Recommended Download.
Windows users should also download TeXstudio from www.texstudio.org/.
Mac users should download MacTeX from tug.org/mactex/
Mac users should also download TeXmaker from www.xm1math.net/texmaker/.
TeXmaker and TeXstudio are the programs you will use to edit your document. If you
dont want to download these programs you can try using shareLaTeX, which is a free
version of LATEXyou can use in your web browser.

Class Schedule
The following class schedule is tentative, and will serve to enhance the lectures and textbook as well as provide assistance in preparing your group paper. The tutorials will range
from sample coding in R to lessons in managing bibliographies.

Topic
Weather-Based Insurance and Basis Risk
Introduction to the Data Set and the Topic of your Paper
Introduction to Programming in R - Exploring Your Data
Introduction to Programming in R - Writing Scripts
Introduction to Programming in R - Geostatistics
Introduction to LATEX- Making Your Paper Look Beautiful
Managing References and Creating Your Bibliography
Giving a Compelling Presentation People will Remember
TBD
TBD
TBD
TBD

Tips and Advice

1. This research paper can be divided into many different aspects, including research,
coding, result interpretation, and writing. By dividing these responsibilities amongst
your team members you can accomplish much more than by trying to be deeply involved in every single aspect of the paper.
2. A paper does not need to be earth shattering or completely revolutionize the field in
order to be a good paper. Be realistic in your goals and focus on writing a clear, concise
paper that gets your point across.
3. If you are having a hard time finding papers that are relevant to your research, try
using Google Scholar. Type in what you are searching for and try to find a recent
paper (within the last five years) which discusses your topic. The paper you find may
not be directly applicable to what you are writing, but will almost certainly have useful
papers listed in the references.
4. Write as you research. I cannot stress this point enough. If you spend a lot of time
reading papers about topic x one day, take an hour to write up a summary of what you
have read. It is very frustrating to have to sit down and reread papers a month later
because you have forgotten everything you learned. By writing as you read you will
save yourself a considerable amount of effort down the road.
5. Always keep references up to date. Any ideas which are not your own must be cited,
and it can be easy to lose track of where you read something if you dont keep track of
references. If you are using LATEX, throw the references metadata in your .bib file as
soon as you find a paper you want to read. If you are using Microsoft Word or another
word processor, format your references by hand as soon as you find a paper you want
to read.
6. Learning to code is an invaluable skill in todays job market, but coding also has the
potential to be the single most frustrating experience of your life. If you hit a brick
wall and cant figure out why your code isnt working, take a break. From Einstein to
Tesla, many geniuses have espoused the power of the subconcious mind to figure out
our most complex problems. By taking a break from your code you allow your brain to
put the problem on the back burner and figure it out subconciously. More often than
not the solution to your programming problem will arrive as a flash of inspiration in
the middle of walking your dog or taking a shower.