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EXAMINATIONS

9th November 2010

Subject CT6 – Statistical Methods

Time allowed: Three Hours (10.00 – 13.00 Hrs.)

1. Please read the instructions on the front page of answer booklet and instructions to

examinees sent along with hall ticket carefully and follow without exception

3. Attempt all questions, beginning your answer to each question on a separate sheet.

However, answers to objective type questions could be written on the same sheet.

4. In addition to this paper you will be provided with graph paper, if required.

Please return your answer book and this question paper to the supervisor separately.

IAI CT6 1110

Q. 1) A veteran actuary believes that the claims from a particular type of policy follow the Burr

distribution with parameters 2 , 1000 and 0.75 . As per his recommendation,

the insurance company has set a deductible such that 25% of the losses result in no claim

to the insurer.

(ii) An actuarial trainee suspects that the deductible set by the veteran actuary is based

on more of surmise than data. She has access to data on 1250 claims (net of

deductible). Continuing with the assumption of the Burr distribution for the original

claims, she wishes to estimate its parameters from the available data, by using the

method of maximum likelihood. Give an expression for the probability density

function of the observed data (net of deductible), and the likelihood function that

has to be maximized. (4)

(iii) Give an expression for the maximum likelihood estimate (MLE) of the true fraction

of the losses that result in no claim to the insurer, in terms of the MLE of the

parameters. (2)

[9]

Q. 2) The annual number of claims on a particular risk has the Binomial distribution with

maximum claim number 10 and average claim number . The prior density of the

n n

1 n1 n2 1! 1 2

parameter is 1 , where n1 and n2 are known positive

10 n1!n 2 ! 10 10

integers. The number of claims in the years 2007, 2008 and 2009 were X1, X2 and X3,

respectively.

(i) Determine the prior mean of . (2)

(ii) Determine the maximum likelihood estimator of . (2)

(iii) Determine the Bayes estimate of the number of claims in the year 2010, under the

squared error loss function. (4)

(iv) Show that the estimator of part (iii) has the form of a credibility estimate, and

identify the credibility factor. (2)

(v) Determine the credibility estimator of under EBCT Model 1 and compare with

the result of part (iii). (6)

[16]

Q. 3) The aggregate claims process for a risk is a compound Poisson process with rate 50

per annum. Individual claim amounts are Rs. 2500 with probability 0.25, Rs. 5000 with

probability 0.5, or Rs. 7500 with probability 0.25. The premium loading is 10%. Let S

denote the aggregate annual claim amount.

(i) Calculate the mean and variance of S. (2)

(ii) Using a normal approximation to the distribution of S, calculate the initial surplus

required in order that the probability of ruin at the end of the first year is 0.05. (3)

(iii) A reinsurer offers to sell to the insurer proportional reinsurance for 25% of the

claims, for premium loading 15%. If this offer is accepted, calculate the modified

initial surplus required in order that the probability of ruin at the end of the first

year is 0.05. (4)

Page 2 of 5

IAI CT6 1110

[9]

policies are as given in the following table.

Accident Development Year

Year 0 1 2 3

2006 2,463 2,749 3,529 3,980

2007 3,013 3,278 3,608

2008 3,321 3,716

2009 3,953

The earned premium for the year 2009 is Rs. 6,472,000, while the paid claims are

Rs. 1,731,000.

(i) Assuming that the Ultimate Loss Ratio is 88%, calculate the reserve needed for 2009

using the Bornhuetter-Ferguson (basic) method. (8)

(ii) State the assumptions underlying the use of the above method. (3)

[11]

Yt Yt 2 Z t ,

(i) What is the range of values of the real valued parameter so that the process is

stationary? (2)

(ii) Obtain a representation of Yt as a Z

j 0

j t j , by specifying a0, a1,… explicitly. (3)

(iii) Using part (b) or otherwise, find an expression for the variance of Yt in terms of

and 2 . (2)

(iv) Compare the result of part (iii) with the variance of an AR(1) process and explain any

similarity or dissimilarity. (2)

[9]

Q. 6) The sample ACF and PACF values at lags 1 to 10 of a time series of length 500, are as

given below.

Lag 1 2 3 4 5 6 7 8 9 10

SACF -0.7793 0.6180 -0.4824 0.386 -0.341 0.3172 -0.2989 0.2728 -0.2181 0.163

SPACF -0.7793 0.0275 0.0188 0.0232 -0.084 0.0538 -0.0289 0.0004 0.0616 -0.0301

(i) Determine through a statistical test whether the time series can be regarded as white

noise. (5)

(ii) Indicate, with reasons, if an AR(p) or an MA(q) model may be appropriate for this

time series, and if so, what could be the model order. (4)

[9]

Page 3 of 5

IAI CT6 1110

Q. 7) List six perils that are typically insured against under a household building policy. [3]

insurance policies. He plans to use a generalized linear model for the claim amounts,

involving the following rating factors.

SA : Sum assured (x), a continuous variable.

AG : Age group, a factor with 10 levels.

OC : Occupation, a factor with 6 levels.

A preliminary analysis produces the following summary for the models considered by the

analyst.

SA x 2 238.4

SA + AG ? ? 206.7

SA + AG + SA * AG ? ? 178.3

SA * AG + OC ? ? 166.2

SA * AG * OC ? ? 58.9

(i) Complete the table by filling in the cells with question marks. (4)

(ii) On the basis of the scaled deviance, which model should the analyst choose? (3)

(iii) What further considerations should be given before the analyst makes a

recommendation about the choice of the model? (2)

[9]

Q. 9) An actuary uses the following algorithm to generate pseudorandom numbers X from the

Poisson distribution with mean .

Step 1: Input lambda.

Step 2: Set X=0; Z=0.

Step 3: Set Y = Random sample from the uniform U(0,1) distribution.

Step 4: Increment Z by the amount –ln(Y)/lambda.

(ln is the log function).

Step 5: If Z<1, then increment X by 1; GO TO Step 3.

Step 6: Output X.

Step 7: GO TO Step 2 for generating the next value of X.

(i) By analysing the above algorithm, show that it generates the value X 0 with the

correct probability. (3)

(ii) If five successively random samples from the uniform distribution, generated in Step

3, happen to be 0.564, 0.505, 0.756, 0.610 and 0.046, and 2 , follow the above

algorithm to generate as many samples of X as this information permits. (4)

(iii) Using the uniformly distributed random samples and the value of given in part (ii),

generate samples (as many as possible) from the Poisson distribution, using the

Page 4 of 5

IAI CT6 1110

inverse distribution transform method. (5)

[12]

Q. 10) (i) State the individual risk model, with a clear description of the assumptions. (5)

(ii) How is this model different from the collective risk model? (3)

[8]

Q. 11) The owner of a personal computer has to decide whether to sign an Annual Maintenance

Contract (AMC) or to pay for repair separately on each occasion of computer fault. The

AMC costs Rs. 1000, and provides for an unlimited count of repair services. In the

absence of the AMC, the servicing agency charges Rs. 300 for each repair. The owner

assumes the probability distribution of the annual number of faults as follows.

Number of faults 0 1 2 3 4 5 More than 5

Probability 0.1 0.1 0.2 0.3 0.2 0.1 0

(i) Form the loss matrix for the owner of the computer in respect of the above decision. (2)

[5]

************************

Page 5 of 5

Institute of Actuaries of India

INDICATIVE SOLUTIONS

Introduction

The indicative solution has been written by the Examiners with the aim of helping candidates.

The solutions given are only indicative. It is realized that there could be other points as valid

answers and examiner have given credit for any alternative approach or interpretation which they

consider to be reasonable.

IAI CT6 1110

Question 1

α

⎛ λ ⎞

1− ⎜ γ ⎟

= 0.25 ,

⎝λ + D ⎠

2

⎛ 1000 ⎞

i.e., 1 − ⎜ 0.75 ⎟

= 0.25 .

⎝ 1000 + D ⎠

Thus,

2

⎛ 1000 ⎞

⎜ 0.75 ⎟

= 0.75 .

⎝ 1000 + D ⎠

1000

= 0.75 = 0.8660 .

1000 + D 0.75

D 0.75 1

1+ = .

1000 0.8660

D 0.75 1

= − 1 = 0.1547 .

1000 0.8660

D = 154.71 / 0.75 = 830.5 .

(ii) The density of the losses resulting in claims is the following truncated version of the Burr

density.

αγλα x γ −1

f (x )

=

λ + xγ ( =

)α +1

αγ λ + D γ x γ −1

, x > D.

( ) α

1 − F (D ) ⎛ λ ⎞ α λ + xγ

α +1

( )

⎜ γ ⎟

⎝λ + D ⎠

The probability density function of the claims (net of deductible) is the density of

Y = X − D , where X has the above density. Thus,

αγ (λ + D γ ) ( y + D )γ −1

α

fY ( y) = , y > 0.

{λ + ( y + D ) } γ α +1

If the claims data (net of deductible) are Y1 , Y2 , K , Y1250 , then the likelihood function to be

maximized with respect to the parameters α , γ and λ is

αγ (λ + D γ ) (Yi + D )γ −1

1250 1250 α

L(α , γ , λ ) = ∏ f Y (Yi ) = ∏ .

i =1 i =1 {λ + (Y + D ) }

i

γ α +1

(iii) The MLE of the true fraction of the losses that result in no claim to the insurer is

αˆ

⎛ λˆ ⎞

F (D ) α =αˆ ,γ =γˆ ,λ =λˆ = 1 − ⎜⎜ ⎟ ,

⎟

ˆ γˆ

⎝λ + D ⎠

where α̂ , γˆ and λ̂ are the respective MLE’s of the parameters α , γ and λ , obtained by

maximizing the likelihood described in part (ii), and D = 830.5 , as determined from part

(i).

[9]

Page 2 of 9

IAI CT6 1110

Question 2

θ

(i) Let p = . Then the prior mean is E (θ ) = 10 E ( p ) , where the density of p is

10

(n1 + n2 + 1)! p n1 (1 − p )n2 .

n1!n 2 !

1

E( p) = ∫ p ×

(n1 + n2 + 1)! p n (1 − p )n

1 2

dp

0 n1!n 2 !

1 n1 + 1 (n + n2 + 2)! p n1 +1 (1 − p ) 2 n1 + 1

n

=∫ × 1 dp = .

0 n +n +2

1 2 (n1 + 1)!n2 ! n1 + n2 + 2

(n1 + n2 + 2)! p n +1 (1 − p )n

1 2

is a

(n1 + 1)!n2 !

probability density function (similar to the above density of p, but n1 is replaced by n1+1).

10(n1 + 1)

Thus, the prior mean is 10 E ( p ) = .

n1 + n2 + 2

X 10 − X i

⎛ 10 ⎞⎛ θ ⎞ i ⎛

3

θ ⎞

(ii) The likelihood is ∏ ⎜⎜ ⎟⎟⎜ ⎟ ⎜1 − ⎟ .

i =1 ⎝ X i ⎠⎝ 10 ⎠ ⎝ 10 ⎠

The log-likelihood is a constant plus

( X 1 + X 2 + X 3 )ln⎛⎜ θ ⎞⎟ + (30 − X 1 − X 2 − X 3 )ln⎛⎜1 − θ ⎞⎟ .

⎝ 10 ⎠ ⎝ 10 ⎠

X1 + X 2 + X 3

The MLE of θ , obtained by maximizing the log-likelihood, is =X.

3

(iii) The Bayes estimator of θ under the squared error loss function is the mean of the

posterior distribution.

n n

1 (n1 + n2 + 1)! ⎛ θ ⎞ 1 ⎛ θ ⎞2

The prior density of θ is × × ⎜ ⎟ ⎜1 − ⎟ .

10 n1!n 2 ! ⎝ 10 ⎠ ⎝ 10 ⎠

The likelihood is as given in part (ii).

Therefore, the posterior density of p is proportional to

n n X 10 − X

1 (n1 + n2 + 1)! ⎛ θ ⎞ 1 ⎛ θ ⎞ 2 3 ⎛ 10 ⎞⎛ θ ⎞ i ⎛ θ ⎞ i

× × ⎜ ⎟ ⎜1 − ⎟ × ∏ ⎜⎜ ⎟⎟⎜ ⎟ ⎜1 − ⎟ ,

10 n1!n2 ! ⎝ 10 ⎠ ⎝ 10 ⎠ i =1 ⎝ X i ⎠⎝ 10 ⎠ ⎝ 10 ⎠

n1 + X 1 + X 2 + X 3 n2 + 30 − X 1 − X 2 − X 3

⎛θ ⎞ ⎛ θ ⎞

i.e., proportional to ⎜ ⎟ ⎜1 − ⎟ .

⎝ 10 ⎠ ⎝ 10 ⎠

Comparison with the prior density reveals that the posterior density is

n1 + X 1 + X 2 + X 3 n2 + 30 − X 1 − X 2 − X 3

(n1 + n2 + 31)!⎛⎜ θ ⎞⎟ ⎛ θ ⎞

⎜1 − ⎟

1 ⎝ 10 ⎠ ⎝ 10 ⎠

× ,

10 (n1 + X 1 + X 2 + X 3 )!(n2 + 30 − X 1 − X 2 − X 3 )!

Page 3 of 9

IAI CT6 1110

which is similar to the prior density, but has different parameters. By comparing this

density with the prior and the prior mean computed in part (i), we conclude that the

10(n1 + X 1 + X 2 + X 3 + 1)

posterior mean is .

n1 + n2 + 32

(iv) The posterior mean can be written as

30 X + X 2 + X 3 n1 + n 2 + 2 10(n1 + 1)

× 1 + × ,

n1 + n 2 +32 3 n1 + n 2 +32 n1 + n 2 + 2

30

which is of the form Z × X + (1 − Z ) × E (θ ) , with credibility factor Z = .

n1 + n2 + 32

n1 + 1

E( p) = ,

n1 + n2 + 2

( ) 1 (n1 + n2 + 1)! p n (1 − p )n

E p2 = ∫ p2 × 1 2

dp

0 n1!n 2 !

1 (n1 + 2)(n1 + 1) (n + n2 + 3)! n + 2 (n1 + 2)(n1 + 1)

p (1 − p ) dp =

n

=∫ × 1 1 2

.

0 (n + n + 3)(n + n + 2 ) (n1 + 2)!n2 ! (n1 + n2 + 3)(n1 + n2 + 2)

1 2 1 2

) − [E ( p )] = (n + n + 3)(n + n + 2) −

2 (n1 + 1)

2

1 2 1 2 (n1 + n2 + 2)2

(n1 + 1) (n1 + 2)(n1 + n2 + 2) − (n1 + 1)(n1 + n2 + 3) (n1 + 1)(n2 + 1)

= × = .

(n1 + n2 + 2) (n1 + n2 + 2 )(n1 + n2 + 3 ) (n1 + n2 + 2)2 (n1 + n2 + 3)

It follows that

10(n1 + 1) 100(n1 + 1)(n 2 + 1)

E (m(θ )) = , V (m(θ )) = .

n1 + n2 + 2 (n1 + n2 + 2)2 (n1 + n2 + 3)

⎛ θ ⎞

Further, s 2 (θ ) = V ( X | θ ) = θ ⎜1 − ⎟ , and

⎝ 10 ⎠

E s 2 (θ ) = 10 × − 10 × = 10 × .

n1 + n 2 + 2 (n1 + n2 + 3)(n1 + n2 + 2) (n1 + n2 + 2)(n1 + n2 + 3)

The EBCT Model 1 credibility factor is

n 3 3 30

Z= = = = ,

n+

(

E s 2 (θ ) ) 10(n1 + 1)(n 2 + 1)

3+

(n1 + n2 + 2) n1 + n2 + 32

V (m(θ )) (n + n2 + 2)(n1 + n2 + 3)

3+ 1

10

100(n1 + 1)(n 2 + 1)

(n1 + n2 + 2)2 (n1 + n2 + 3)

and the corresponding credibility estimate of θ is

30 X + X 2 + X 3 n1 + n2 + 2 10(n1 + 1)

× 1 + × , same as in part (iii).

n1 + n 2 + 32 3 n1 + n2 + 32 n1 + n2 + 2

[16]

Page 4 of 9

IAI CT6 1110

Question 3

( )

V (S ) = 50 × 0.25 × 2500 2 + 0.5 × 5000 2 + 0.25 × 7500 2 = 37,500 2 .

⎛ S − E (S ) U + (1 + 0.1)E (S ) − E (S ) ⎞

i.e., P⎜ > ⎟ = 0.05 ,

⎜ V (S ) V ( S ) ⎟

⎝ ⎠

U + (1 + 0.1)E (S ) − E (S )

i.e., = 1.645 ,

V (S )

U + 25,000

i.e., = 1.645 , i.e., U = 36,682 .

37,500

i.e., P⎜ > ⎟ = 0.05 ,

⎜ 0.75 V (S ) 0 .75 V (S ) ⎟

⎝ ⎠

i.e., = 1.645 ,

0.75 V (S )

U R + 15,625

i.e., = 1.645 , i.e., U = 30,637 .

28,125

[9]

Question 4

2749 + 3278 + 3716 3529 + 3608 3980

f 01 = = 1.1075 , f 12 = = 1.1842 , f 23 = = 1.1278 .

2463 + 3013 + 3321 2749 + 3278 3529

The cumulative development factor applicable to the year 2009 is

f = f 01 × f 12 × f 23 = 1.4791 .

1 − 1 / f = 0.3239 .

The earned premium is Rs. 6,472,000 (given).

The assumed ultimate loss ratio is 0.88.

The emerging liability is 0.3239 × 6,472,000 × 0.88 = 1,844,000 .

The reported liability is Rs. 3,953,000 (from table).

The Ultimate liability is Rs. 1,844,000 + Rs. 3,953,000 = Rs. 5798,000.

Paid claims are Rs. 1,731,000 (given).

Reserve needed = Rs. 5,798,000 – Rs. 1,731,000 = Rs. 4,066,000.

Page 5 of 9

IAI CT6 1110

(ii) The assumptions are:

• Payments from each accident year develop in the same way, i.e., for each accident

year, the amount of claims paid in each development year is a constant proportion

of the total claims paid from that accident year.

• Weighted average of the past inflation would be repeated in the future (this

assumption holds trivially if the rate of inflation is constant).

• The estimated loss ratio is appropriate.

[11]

Question 5

(i) ( )

The characteristic polynomial is 1 − αB 2 , and the magnitude of its roots is 1 / α . For

stationarity of the process, these roots should have magnitude greater than 1, which can

happen if and only if α < 1 .

(ii) (1 − αB )Y

2

t = Zt .

(

Hence, Yt = 1 − αB 2 )

−1

{ (

Z t = 1 + αB 2 + αB 2 ) + (αB )

2 2 3

} ∞

+ L Z t = ∑ α j Z t −2 j ,

j =0

j/2

⎧α , for j even,

i.e., a j = ⎨

⎩ 0, for j odd .

⎛ ∞ ⎞ ∞ ∞ ∞

σ2

(iii) V (Yt ) = V ⎜⎜ ∑ α j Z t − 2 j ⎟⎟ = ∑ V (α j Z t − 2 j ) = ∑ α 2 jV (Z t − 2 j ) = ∑ α 2 j σ 2 = .

⎝ j =0 ⎠ j =0 j =0 j =0 1−α 2

(iv) The above expression is identical with that of the variance of an AR(1) process with

parameter α .

This is more than a coincidence. The odd and even samples of the given time series

separate into two completely independent sequences, each being an AR(1) process with

parameter α .

[9]

Question 6

(i) The portmanteau test statistic computed from m sample ACF values, r1,…,rm, is

m

r2

n(n + 2 )∑ k , n being the sample size. If the time series indeed comes from white

k =1 n − k

noise, then this statistic has the chi-square distribution with m degrees of freedom. This

holds for any fixed m.

In this case, n = 500 , and we can choose m = 10 .

The portmanteau test statistic turns out to be 922.4.

This is a very large value in relation to the null distribution of χ 102 , indicating rejection of

the null hypothesis of white noise.

[A properly justified use of the portmanteau test for smaller values of m should also fetch

full credit. The correct value of the statistic for m = 9,…,1 are 908.8, 884.4, 846.5, 801.0,

749.9, 690.9, 615.5, 498.0 and 305.5, respectively. All the tests are highly significant.]

(ii) The ACF sequence becomes zero after lag q in the case of an MA(q) time series.

Likewise, the PACF sequence becomes zero after lag p in the case of an AR(p) process.

One can check whether sample ACF or PACF samples are significantly different from 0,

by comparing their absolute value with the threshold 2 n .

In the present case, the threshold is 0.0894.

Page 6 of 9

IAI CT6 1110

The sample ACF sequence has many values which are larger than this value in

magnitude. Therefore, an MA(q) model does not appear to be appropriate.

On the other hand, the sample PACF sequence has smaller absolute values after lag 1.

Therefore, an AR(1) model is indicated.

[9]

Question 7

Typical perils are:

• Fire

• Explosion

• Lightning

• Theft

• Storm

• Flood

• Earthquake [3]

[Any six from the above list will suffice. Credit should be given for other reasonable answers.]

Question 8

(i) The completed table is as follows (the index i indicates the age group and has values from

1 to 10; the index j indicates the occupation category and has values from 1 to 6).

Model Linear predictor No of parameters Scaled deviance

SA α + βx 2 238.4

SA + AG α + βx + γ i 11 206.7

SA + AG + SA * AG αi + βi x 20 178.3

SA * AG + OC αi + βi x + θ j 25 166.2

SA * AG * OC α ij + β ij x 120 58.9

(ii) The differences in deviance and degree of freedom in models of successively higher

complexity are as follows.

Model Degree of Scaled Change in degree Change in

freedom deviance of freedom scaled deviance

SA 2 238.4

SA + AG 11 206.7 9 31.7

SA + AG + SA * AG 20 178.3 9 28.4

SA * AG + OC 25 166.2 5 12.1

SA * AG * OC 120 58.9 95 107.3

Going by the thumb-rule reduction threshold of two per degree of freedom, each of the

successive levels of model sophistication, except for the last one, is justified. Therefore,

the chosen model is SA * AG + OC.

(iii) One needs to analyse the residuals in order to check for violation of model assumptions

before making recommendation about the appropriate choice of the model. A goodness of

fit test may also be conducted.

[9]

Question 9

(i) The output X is equal to zero if and only if the first generated value of Z happens to be

greater than or equal to 1. The probability of this even is

Page 7 of 9

IAI CT6 1110

P( X = 0) = P(Z ≥ 1) = P(− ln Y ≥ λ ) = P(Y ≤ e ) = e ,

−λ −λ

which is the correct value of probability of a sample from the Poisson distribution (with

mean λ ) being equal to 0.

Y − ln Y Z X Output

λ

0.564 0.2864 0.2864 0 -

0.505 0.3416 0.6279 1 -

0.756 0.1399 0.7678 2 -

0.610 0.2471 1.0150 3 X =2

0.046 1.5395 1.5395 0 X =0

(iii) The following table gives some values of the probability function and the cumulative

distribution function for the Poisson distribution with mean λ = 2 .

x P( X = x ) P( X ≤ x )

0 0.1353 0.1353

1 0.2707 0.4060

2 0.2707 0.6767

3 0.1804 0.8571

4 0.0902 0.9473

5 0.0361 0.9834

6 0.0120 0.9955

(0, 0.1353) 0

(0.1353,0.4060) 1

(0.4060,0.6767) 2

(0.6767,0.8571) 3

(0.8571,0.9473) 4

(0.9473,0.9834) 5

(0.9834,0.9955) 6

Obviously the above tables are incomplete, but these are adequate for the purpose, since

the given random numbers are within the intervals listed here.

As per the above table, the five random numbers correspond to the following values of X:

2, 2, 3, 2, 0.

[12]

Question 10

(i) The individual risk model is a model for the risk arising from a portfolio of a fixed

number of individual risks. According to this model, the aggregate claims from the

portfolio is

S = Y1 + Y2 + L + Yn ,

where n is number of risks, and for i = 1,2,K, n , Yi is the claim amount under the ith risk.

Page 8 of 9

IAI CT6 1110

• the risks are independent,

• the number of risks does not change over the period of insurance cover,

• the number of claims from each risk is either 0 or 1.

The claim numbers and claim sizes for different risks are not assumed to have identical

distribution.

(ii) This model differs from the collective risk model in three major ways.

• In the individual risk model, the number of risks is fixed, and stays the same over the

period of cover, whereas in the collective risk model, this number may be random,

and may also vary.

• Unlike the case of the individual risk model, there is no restriction on the number of

claims arising from individual risks under the collective risk model.

• In the individual risk model, the individual risks are assumed to be independent, while

in the collective risk model, the individual claim amounts are assumed to be

independent.

[8]

Question 11

(i) Nature’s choices in the present case are the number of faults, θ . The losses associated

with the decisions to sign the AMC (d1) or not to sign it (d2) are as given below.

θ

0 1 • 2 3 4 5

D1 1000 1000 1000 1000 1000 1000

D2 0 300 600 900 1200 1500

(ii) The maximum losses under d1 and d2 are Rs. 1000 and Rs. 1500, respectively. The

minimax decision is to sign the AMC (d1).

(iii) The average loss under d1 is Rs. 1000.

The average loss under d2 is

0.1 × 0 + 0.1 × 300 + 0.2 × 600 + 0.3 × 900 + 0.2 × 1200 + 0.1 × 1500 = Rs. 810.

Therefore, the Bayes’ decision is not to sign the AMC (d2).

[5]

******************

Page 9 of 9

INSTITUTE OF ACTUARIES OF INDIA

EXAMINATIONS

8th November 2010

Subject CT3 – Probability & Mathematical Statistics

Time allowed: Three Hours (15.00 – 18.00 Hrs)

1. Please read the instructions on the front page of answer booklet and instructions to examinees sent

along with hall ticket carefully and follow without exception

3. Attempt all questions, beginning your answer to each question on a separate sheet.

However, answers to objective type questions could be written on the same sheet.

4. In addition to this paper you will be provided with graph paper, if required.

Please return your answer book and this question paper to the supervisor separately.

IAI CT3 1110

Q. 1) Puneet, the owner of Hard Rock Café is interested in how much people spend at the cafe. He

examines 20 randomly selected bill receipts and writes down the following data (in Rs.):

1500 2000 2500 2500 3500 2500 3500 3000 4000 4000 2000 2500 1500 1500 3500 2500

3500 4500 6000 6000

(a) Determine the mean and standard deviation of the sample.

(3)

A mathematician came up with bounds on how much of the data must lie close to the mean. In

particular, for any positive k, at least 1 – 1/k3 proportion of the data lies within the interval given

by k times the standard deviation around the mean.

(b) For k = 2, determine the upper and lower bounds for the data. (1)

(c) Using your answer to part (b), comment on whether the mathematician’s theorem is

correct in light of the given data. (2)

[6]

function

f(x) = 1/k; 0≤x≤k

0; otherwise

A random number r is generated from the uniform distribution over [0, 1]. The following values

are then calculated

x1 = rk ; x2 = k(1-r) ; x3 = r/k

State, with reason, which of the above values are valid simulated observations of X? [2]

Q. 3) Suppose the probability of an individual being born on any particular day of the year is given by

1/365.

(a) What is the probability that 2 people meeting at random have the same birthday? (2)

(b) Suppose now that a group has 3 individuals. What is the probability that at least two of

these individuals will share a birthday? What if the group has 4 individuals? (4)

(c) Show that a group must have 15 individuals such that the probability of finding at least 2

(3)

people with the same birthday is 25%.

[9]

Page 2 of 7

IAI CT3 1110

Q. 4) For the random variable X, you are given:

E*X+ = θ, θ>0

Var*X+ = θ2/25

kX

= ; k > 0 and where is the estimate of θ

k 1

2

MSE ( ) 2[bias ( )]

Find k. [4]

Q.5) Vivek’s company owns a factory. It buys insurance to protect itself against major repair costs.

Profit equals revenues, less the sum of insurance premiums, retained major repair costs, and all

other expenses. Company will pay a dividend equal to the profit, if it is positive.

(ii) The distribution of major repair costs (k) for the factory is

K Probability

0 0.4

1 0.3

2 0.2

3 0.1

(iii) The insurance policy pays the major repair costs in excess of that factory’s deductible of 1

(i.e. claims will be payable after deducting 1 provided claims are greater than 1, else nil).

The insurance premium is 110% of the expected claims for the insurance company.

[4]

with common pdf . If Y is the minimum of these n variables, find

the CDF and the pdf of Y. [4]

Page 3 of 7

IAI CT3 1110

Q.7) The scores on the final exam in Varun’s risk management class have a normal distribution with

mean θ and standard deviation equal to 8. θ is a normally distributed random variable with

mean equal to 75 and variance equal to 36.

Each year, Varun chooses a student at random and pays the student equal to the student’s score.

However, if the student fails the exam (i.e. score ≤ 65), then there is no payment.

Calculate the conditional probability that the payment is less than 90, given that there is a

[5]

payment.

4x : 0<x<

f(x) = 4(1 – x) : <x<1

0 : otherwise

(5)

(b) Let X1 and X2 be uniform independent random variables on the interval (0,1), i.e. each with

density

f(x) = 1 : 0<x<1

0 : otherwise

(i) Use the definition and properties of moment generating functions to derive the moment

(2)

generating function of Y = .

(ii) Hence, comment on the distribution of the mean of two random samples from the uniform

distribution on the interval (0, 1). (1)

[8]

Page 4 of 7

IAI CT3 1110

Q. 9) Suppose that the joint probability density function of the bivariate random variable (X,Y) is given

by:

(b) Work out the marginal density functions and and hence E(X) and E(Y). (3)

(4)

"In this example, the variables X and Y are independent if and only if they are uncorrelated."

[10]

Q. 10) is a sequence of independent and identically distributed random variables, each with

mean 5 and variance 25. Sn represents aggregate claims from a risk in year n. The insurer

intends to calculate the annual risk premium, ∏, for this risk such that:

Pr [ Sn > ∏ ] = 0.01

(iii) Assuming that Sn has an exponential distribution, calculate the value of:

(4)

P[ (S1 ≤ 23.03) (S1 + S2 ≤ 46.06) ]

[10]

Q. 11) You are given the following random sample of 30 auto claims:

54 140 230 560 600 1,100 1,500 1,800 1,920 2,000

2,450 2,500 2,580 2,910 3,800 3,800 3,810 3,870 4,000 4,800

7,200 7,390 11,750 12,000 15,000 25,000 30,000 32,300 35,000 55,000

Test the hypothesis that auto claims follow a Continuous Distribution Function F(x) with the

following percentiles:

x 310 500 2,498 4,876 7,498 12,930

F(x) 0.16 0.27 0.44 0.65 0.83 0.95

Group the data using the largest number of groups such that the expected number of claims in

each group is at least 5.

Using the chi-square goodness-of-fit test, determine the results of the test at 5% level of

significance. [5]

Page 5 of 7

IAI CT3 1110

Q. 12) Let be a sample from the random variable X with pdf

(4)

(a) Find the maximum likelihood estimator of .

(4)

(b) Show that the above estimate is an unbiased estimator of .

[8]

Q. 13) Sachin, owns a towing company which provides all towing services to members of the City

Automobile Club.

For a particular towing, the information is as below

0 - 9.99 km 80 50%

10 - 29.99 km 100 40%

30+ km 160 10%

The automobile owner must pay 10% of the cost and the remainder is paid by the City

Automobile Club. The number of towings has a Poisson distribution with mean of 1000 per year.

The number of towings and the costs of individual towings are all mutually independent.

Using the normal approximation for the distribution of aggregate towing costs, show that the

probability that the City Automobile Club pays more than 90,000 in any given year is 10%. [5]

The mean and standard deviation of protein intake as well as the group sizes are presented in

the table below.

STD 75 9 10

LAC 57 13 10

VEG 47 17 6

Page 6 of 7

IAI CT3 1110

(a) Perform an overall F test to determine whether there is a significant difference in mean

(5)

protein intake between the three groups stating both the null and alternative hypotheses.

(b) Obtain 95% confidence intervals for each of the group means. Which groups appear (3)

different from one another?

(c) Repeat part (b) using pair-wise confidence intervals and hypothesis tests for whether there

(7)

are differences in mean protein intake.

[15]

Q.15) Anand obtains cash from an ATM (cash machine) for his girlfriend. He suspects that the rate at

which she spends cash is affected by the amount of cash he withdrew at his previous visit to an

ATM.

To investigate this, he deliberately varies the amounts he withdraws. For the next 10

withdrawals, he records, for each visit to an ATM, the amount x (in Rs.) withdrawn, and the

number of hours, y, until his next visit to an ATM.

Withdrawal 1 2 3 4 5 6 7 8 9 10

(b) Interpret, in context of the question, the gradient of the regression line (1)

[5]

*****************************

Page 7 of 7

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