Actuarial Science

Actuarial Science Meaning

Actuarial science assesses financial risk based on statistical and mathematical concepts. Actuaries are professionals who study past trends to determine the future possibility of loss. They also allocate a reserve amount to cope with anticipated risks.

An actuary designs, tests, and manages risk aversion policies to reduce risk and maximize profits. But the potential risks identified by an actuary may or may not occur since businesses are impacted by external events also. Actuarial science is applied in insurance, pension planning, investment, finance, banking, health, climate change, and technology.

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What do Actuaries do?

Actuaries or actuarial scientists quantify the amount of financial riskFinancial RiskFinancial risk refers to the risk of losing funds and assets with the possibility of not being able to pay off the debt taken from creditors, banks and financial institutions. A firm may face this due to incompetent business decisions and practices, eventually leading to bankruptcy.read more. They commonly work in insurance, pension, investment, and finance sectors. These experts foresee financial uncertainties and measure their impact. Actuaries are also required to design, test, and manage risk aversion policies. They are like lifesavers in deep waters and therefore get compensated with a substantial remunerationRemunerationRemuneration refers to overall monetary and non-monetary compensation that employees or independent contractors receive for providing services to an organization or company.read more.

For example, Ryan takes up health insurance plans for himself and his elderly mother. Ryan is 25 years old, while his mother is 52. Yet, insurance companies charge twice as much for his mother. Why do premiums vary? This is because actuaries calculate insurance premiumsInsurance PremiumsInsurance Premium is the amount paid by any individual or a corporate entity to cover themself from uncertain events resulting in heavy economic and non-economic losses.read more specifically for each individual. This way, insurance companies mitigate risks.  
Since Ryan’s mother is older, she is more likely to develop specific health issues or may have some disease at the time of insurance. Therefore, multiple variables need to be considered. This is what actuaries do. They formulate financial models. They design financial products, assessments, and services.

Applications of Acturial Science

Traditionally, actuarial science was employed to price financial products and determine the premium for insurance plans. But in the era of artificial intelligence, its application has expanded to climate change predictions as well.

Following are the common fields that employ actuaries:

#1 – Insurance Companies

Insurance providers are at high risk of hefty claims. Actuaries analyze past data and recent facts to calculate appropriate premiums. Then, they chart out premiums specifically for each plan depending on the financial risk. For example, life insurance actuaries consider factors like age, genetics, mortality rate, and diseases.  

#2 – Pension Funds

Actuaries formulate pension fund schemes to benefit the employees of different occupations. They conduct in-depth valuation and analysis to figure out the best possible returns.  

#3 – Investment Consultancies

The investment firms offering products like mutual fundsMutual FundsA mutual fund is a professionally managed investment product in which a pool of money from a group of investors is invested across assets such as equities, bonds, etcread more also employ actuaries. Actuaries assist in designing financial products. They assess the risk involved in each investment product and alter policies accordingly.

#4 – Stock Exchange

Stock marketsStock MarketsStock Market works on the basic principle of matching supply and demand through an auction process where investors are willing to pay a certain amount for an asset, and they are willing to sell off something they have at a specific price.read more are unpredictable. To ascertain risk, actuaries consider stock valuation, credit history, earningsEarningsEarnings are usually defined as the net income of the company obtained after reducing the cost of sales, operating expenses, interest, and taxes from all the sales revenue for a specific time period. In the case of an individual, it comprises wages or salaries or other payments.read more, cash flowCash FlowCash Flow is the amount of cash or cash equivalent generated & consumed by a Company over a given period. It proves to be a prerequisite for analyzing the business’s strength, profitability, & scope for betterment. read more, revenueRevenueRevenue is the amount of money that a business can earn in its normal course of business by selling its goods and services. In the case of the federal government, it refers to the total amount of income generated from taxes, which remains unfiltered from any deductions.read more, profits, and debt. Actuaries advise equity investmentsEquity InvestmentsEquity investment is the amount pooled in by the investors in the shares of the companies listed on the stock exchange for trading. The shareholders make gain from such holdings in the form of returns or increase in stock value.read more by disclosing the level of risk involved.

#5 – Banking

Actuaries also undertake credit risk modeling, investment bankingInvestment BankingInvestment banking is a specialized banking stream that facilitates the business entities, government and other organizations in generating capital through debts and equity, reorganization, mergers and acquisition, etc.read more, treasury, corporate finance, market risk analysis, financial product design, and retail bankingRetail BankingRetail banking or personal banking refers to the financial services offered by the financial institutions exclusively to the individual clients. The consumer banking provides personal loan, savings account, debit cards, credit cards, locker, etc.read more.

#6 – Financial Services

Actuaries plan the fund-raising and budgetingBudgetingBudgeting is a method used by businesses to make precise projections of revenues and expenditure for a future specific period of time while taking into account various internal and external factors prevailing at that time.read more strategies of an organization. For this purpose, they consider capital structureCapital StructureCapital Structure is the composition of company’s sources of funds, which is a mix of owner’s capital (equity) and loan (debt) from outsiders and is used to finance its overall operations and investment activities.read more, regulatory compliance, and cost of capitalCost Of CapitalThe cost of capital formula calculates the weighted average costs of raising funds from the debt and equity holders and is the total of three separate calculations – weightage of debt multiplied by the cost of debt, weightage of preference shares multiplied by the cost of preference shares, and weightage of equity multiplied by the cost of equity.read more.  

Importance of Actuarial Science

Employing actuaries has the following advantages:

1. Risk Assessment: It is a proven method of understanding the current scenarios and identifying potential risks that can damage a business.
2. Problem-Solving Attitude: Actuaries have standardized analysis enabling them to identify and solve problems.
3. Risk Management: This is the primary purpose behind actuarial science. Businesses invest considerable time and money to land the best actuarial advisors.
4. Facilitates Decision-making: Based on the application of actuarial science, businesses are decisive and conclusive. This ensures smooth functioning even during unforeseen circumstances.
5. Futuristic Approach:  Actuaries analyze the past and current trends to develop a picture of future risk possibilities.  

Examples

The Corona Virus epidemic was a blow to the Chinese market and the global economy. China was the world’s largest exporter of raw materialsRaw MaterialsRaw materials refer to unfinished substances or unrefined natural resources used to manufacture finished goods.read more. Unfortunately, actuaries could not foresee such an impact; businesses took a hit. 

In such a scenario, the internal numbers of the business might not play a significant role since it is the external factor that is causing the slowdown. Moreover, companies cannot hedgeHedgeHedging is a type of investment that works like insurance and protects you from any financial losses. Hedging is achieved by taking the opposing position in the market.read more for such instances of an epidemic outbreak, thereby stalling global progress.

Guardian is a famous mutual life insurer. Post-covid, the Guardian, restructured their technology, data, and processes by enhancing actuaries’ skills and data science learning. Guardian intends to protect themselves from similar future situations.

A Career in Actuarial Science

When it comes to making a career in actuarial science, only a handful attempt; the primary reason behind it is the level of difficulty, of course.

A career in Actuarial science is lucrative. An actuary in the US makes around $114,628. Actuaries with 1 to 2 years of experience earn about $86686, while those with 6 to 9 years of experience earn as much as $196469. The top destinations for actuaries in the US include The Accolade, State Compensation Insurance Fund, Equitable, and Lincoln Financial Group.

Actuaries require in-depth knowledge of mathematics and statistical techniques. Then, they apply this knowledge to solve problems and mitigate risks. Altogether, it is one of the best-paying career options.

Who Should become an Actuary and How?

A candidate can secure a bachelor’s or master’s degree in actuarial science.  Following are the basic steps involved in becoming an actuarial scientist:

• A candidate with a good score in high school (generally 85% and above) or a graduation degree in any stream with at least 55% can get enrolled into actuarial science under the Institute and Faculty of Actuaries (IFoA).
• The next step is to decide the actuarial stream. Candidates have to choose either insurance, pension fundsPension FundsA pension fund refers to any plan or scheme set up by an employer which generates regular income for employees after their retirement. This pooled contribution from the pension plan is invested conservatively in government securities, blue-chip stocks, and investment-grade bonds to ensure that it generates sufficient returns.read more, health, banking, finance, or investment as a niche. They can also join as an intern (it isn’t compulsory but helps gain exposure).
• Now, the most crucial step is to clear the exam series. Under the IFoA curriculum, there is a series of thirteen actuarial exams. However, qualifying for at least one or two of the exams is required for securing a job. Then again, passing more exams makes the candidate eligible for better positions. Also, the final exam varies depending on the particular actuarial stream.

Frequently Asked Questions (FAQs)

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This has been a Guide to what is Actuarial Science and its meaning. Here we explain its applications, examples, importance, and career options. You may learn more about financing from the following articles –

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