AEC 13- Financial Markets

OTHER FINANCIAL INSTITUTIONS

INSURANCE COMPANIES
Insurance companies are businesses that offer financial protection to individuals or
organizations in the form of insurance policies. These policies provide coverage for
specific risks, such as health, property or liability in exchange for regular premium
payments. When a covered loss or events occurs, the insurance company compensates
the policyholder according to the terms of the policy.
The insurance provider can act either as an insurance underwriter or an insurance broker.
An insurance underwriter assesses the risk of an applicant for coverage or for a policy.
An insurance broker simply sells insurance contracts for coverage or for a policy. Thus a
broker acts more as an intermediary between the insurance underwriter and the applicant.
Insurance services are classified into two major groups: (1) life and (2) property-
casualty.
Life insurance provides protection in the event of untimely death, illnesses, and
retirement. Property-casualty insurance protects against personal injury and liability due
to accidents, theft, fire and other catastrophes.

LIFE INSURANCE COMPANIES

Life insurance can be defined as a contract between an insurance policy holder and an
insurance company, where the insurer promises to pay a sum of money in exchange for
a premium, upon the death of an insured person or after a set of period.
See Insurance Industry Performance Report as of the Quarter Ending December 31,
2023- Life Insurance Companies
Here are examples of Life Insurance Companies in the Philippines as of December 31,
2022
1. Sun Life of Canada(Philippines), Inc.
2. Pru Life Insurance Corporation of U.K.
3. Allianz PNB Life Insurance, Inc.
4. Philippine Axa Life Insurance Corporation
5. BDO Life Assurance Company, Inc.
6. FWD Life Insurance Corporation –
7. Manufacturers Life Insurance Co.(Phils.) Inc.,
8. AIA Philippines Life and General Inc. Co., Inc.
9. BPI AIA Life Assurance Corporation
10. Insular Life Assurance Company, Limited

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Types of life insurance companies
Life insurance companies can be broadly categorized into three main types:
1. Stock insurance companies. These companies are owned by shareholders and
operated for their benefit. Profits are typically distributed to shareholders in the
form of dividends.
2. Mutual Insurance Companies. Mutual Insurance Companies are owned by
policyholders. Policyholders are entitled to receive dividends, which can be used
to reduce premiums or increase coverage.
3. Fraternal Benefit Societies. These are non-profit organizations that provide
insurance and other financial services to their members. They often have a social
or religious affiliation and may offer unique benefits beyond traditional insurance

Basic Classes or Lines of Life Insurance

Life insurance can be generally be classified into two main types: term life insurance
and permanent life insurance. Term life insurance provides coverage for a specified
period, typically 10, 20, or 30 years, and pays a death benefit if the insured passes away
during that term.
Permanent life insurance, on the other hand, provides coverage for the entire lifetime of
the insured and includes policies such as whole life, universal life, and variable life
insurance.

Assets and Liabilities of Life Insurance

See sample financial statements of Life Insurance Company
Notice that among the assets listed were:
- Investment in government securities, corporate bonds and stocks and in
mortgages(commercial and home mortgages) with other loans – including policy
loans(loans made by insurance company to its policyholders using their policies
as collateral and miscellaneous assets comprising the remaining assets

- Liabilities include policy reserves (a liability item for insurers that reflects their
expected payment commitments on existing policy contracts; policy claims
(request made by policyholders or their beneficiaries to receive benefits or
compensation according to the terms outlined in the insurance policy; these claims
typically arise when the insured event, such as death, disability, illness, or damage
to property, occurs, triggering the coverage provided by the insurance policy.

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Regulators and Regulations of Insurance Companies
- Insurance Commission(IC) is a government agency under the Department of
Finance that supervises and regulates insurance, pre-need and health
maintenance organization industries

Insurance in the Philippines is governed by the Insurance Code, as amended (R.A.

10607, Insurance Code). The Insurance Commission is the body that promulgates
the rules and regulations governing insurance and reinsurance.

- Securities & Exchange Commission (SEC) is the government body that

regulates corporations

- Bureau of Internal Revenue(BIR) is the agency for all matters related to taxes
and duties due to the National Government

PROPERTY-CASUALTY INSURANCE COMPANIES

Property & Casualty Insurance involves insurance coverages related to the loss of real
and personal property. This provides coverage for property such as homes, cars and
businesses as well as liability coverage for injuries and damages cause by policy holder
or their property. It typically includes various types of insurance such as homeowners
insurance, renters insurance, auto insurance and commercial property insurance. The
following show the P & C lines:
 Fire Insurance and Allied Lines protect against the perils of fire, lighting and
removal of property damaged in a fire.

 Homeowners Multiple Peril(MP) Insurance protects against multiple perils of

damage to a personal dwelling and personal property(e.g. fire, lighting, windstorm,
hail, explosion, theft weight of ice or snow) as well as liability coverage against the
financial consequences of legal liability resulting from injury to others. It combines
features of both property and liability insurance.

 Commercial Multiple Peril Insurance protects commercial firms against perils

similar to homeowners multiple peril insurance

 Automobile Liability and Physical Damage Insurance provides protection against

(1) losses resulting from legal liability due to the ownership or use of the
vehicle(auto liability) and (2) theft or damage to vehicles (auto physical damage)

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  Liability Insurance (other than auto) provides protection to either individuals or
commercial firms against liabilities relating to their business operations (other than
personal injury to employees covered by workers’ compensation insurance)
Assets and Liabilities of P & C
The assets of property and casualty insurance companies typically include a mix of
investments such as stocks, bonds, real estate, and cash reserves. These assets are
used to generate income and cover potential payouts for insurance claims. Additionally,
insurance companies may hold other assets such as reinsurance agreements and other
financial instruments to manage risk and ensure sufficient funds are available to pay
claims.
The liabilities of P & C insurance companies primarily consist of the obligations to
policyholders for potential future claims. These liabilities include reserves set aside to
cover expected future payments for claims that have been reported but not yet settled, as
well as estimates for claims that may arise in the future but have not yet been reported.
Other liabilities may include amounts owed to reinsurers, policyholders’ premiums yet to
be earned, and various operational and administrative expenses.
Here are some points to understand property and casualty insurance:
 Loss Risk. The key feature of claims loss risk is the actuarial predictability of
losses relative to premiums earned. This predictability depends on a number of
characteristics or features of the perils insured, specifically:

Property vs liability. In general, the maximum levels of losses are more

predictable for property lines than for liability lines. For example, the monetary
value of the loss or damage to an auto is relatively easy to calculate, but the upper
limit on the losses to which an insurer might be exposed in a product liability line-
for example asbestos damage to workers’ health under other liability insurance-
might be difficult if not impossible to estimate.

Severity vs Frequency. In general, loss rates are more predictable on low-

severity, high-frequency lines than on high-severity, low-frequency lines. For
example, losses in fire, auto, and homeowners peril lines tend to be expected to
occur with high frequency and to be independently distributed across any pool of
insured customers. Thus, a limited number of customers are affected by any single
event.
Long-tail vs short tail. Some liability lines suffer from a long-tail exposure
phenomenon that makes estimation of expected losses difficult. This long-tail loss
arises in policies for which the insured event occurs during a coverage period but
a claim is not filed or made until many years later. Long-tail loss is a loss for which
a claim is made some time after a policy was written.

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 Product inflation vs social inflation. Loss rates on all P&C property policies are
adversely affected by unexpected increases in inflation. Inflation generally has an
adverse effect on the cost of providing benefits that have been purchased by the
insured, particularly if the policy is written in terms of the replacement cost of the
asset and the premiums are not adjusted for inflation.
 Reinsurance. An alternative to managing risk on a P&C insurer’s balance sheet
is to purchase reinsurance from a reinsurance company. Reinsurance is
essentially insurance for insurance companies.

 Measuring loss risk. The loss ratio measures the actual losses incurred on a
specific policy line. It measures the ratio of losses incurred to premiums
earned(premiums received and earned on insurance contracts because time has
passed without a claim being filed).

 Expense risks. The two major sources of expense risk to P&C insurers are (1)
loss adjustment expenses(LAE) and (2) commissions and other expenses. LAE
relate to the costs surrounding the loss settlement process.

 Investment yield/return risk. When the combined ratio is more than 100 percent,
overall profitability can be ensured only by a sufficient investment return on
premiums earned.

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SECURITIES FIRMS & INVESTMENT BANKS
Securities and investment banks primarily help suppliers of funds transfer funds to users
of funds at a low cost and with a maximum degree of efficiency. They serve as brokers
intermediating between fund suppliers and users.
Investment banks are financial institutions that assist corporations, governments and
other entities in raising capital by underwriting and issuing securities, providing advisory
services for mergers and acquisitions, facilitating trading of securities and managing
assets.
Securities firms and investment banks engage in the following key areas:
1. Investment banking
This refers to activities related to underwriting and distributing new issues of debt
and equity securities. New issues can be either first-time issues of a company’
debt or equity securities or the new issues of a firm whose debt and equity is
already trading – secondary offering or seasoned issues. An investment bank will
bring in a number of other investment banks(a so called syndicate) to help sell and
distribute a new issue.

2. Venture capital
This is a professionally managed pool of money used to finance new and often
high-risk firms. Venture capital is generally provided to back an untried company
and its managers in return for an equity investment in the firm. Venture capital firms
do not make outright loans. Rather, they purchase an equity interest in the firm
that gives them the same rights and privileges associated with an equity
investment made by the firm’s other owners.

3. Market making
This involves the creation of secondary market in an asset by the securities firm or
investment bank. Thus, in addition to being primary dealers in government
securities and underwriters of corporate bonds and equities, investment banks
make a secondary market in these instruments.

4. Trading
Trading is closely related to the market making activities performed by securities
firms and investment banks just described; a trader takes an active net position in
an underlying instrument or asset.

5. Investing
Investing involves managing pools of assets such as closed and open end mutual
funds (in competition with commercial banks, life insurance companies, and

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 pension funds). Securities firms can manage such funds either as agents for other
investors or as principals for themselves and their stockholders.

6. Cash management
Securities firms and and investment banks offer bank deposit-like cash
management accounts to individual investors.

7. Mergers and acquisitions

Investment banks frequently provide advice on, and assistance in, mergers and
acquisitions. For example, they assist in finding merger partners, underwrite any
new securities to be issued by the merged firms, assess the value of target firms,
recommended terms of the merger agreement, and even assist target firms in
preventing a merger.

8. Other service functions

Other service functions include custody and escrow services, clearance and
settlement services and research and advisory services- for example, giving
advice on divestitures, spin-offs and asset sales. In addition, investment banks are
making increasing inroads into traditional bank service areas such as small
business lending and the trading of loans.

ASSETS AND LIABILITIES

Assets
Cash and cash equivalents
- Funds held in bank accounts or
money market instruments which
provide liquidity for daily operations
and client transactions
Liabilities
Customer Deposits
- Funds held in custody for clients,
including cash deposits, securities
held in brokerage accounts, and
margin deposits for trading

Securities inventory Borrowings

- Stocks, bonds, mutual funds, and
other financial instruments held for
trading purposes or investment
banking activities
Investment securities
- Long-term investments in securities Securities sold, not yet purchased
held for investment purposes, such
as equities, bonds, and other
marketable securities
Customer securities
- Debt obligations incurred by the
firm, such as bank loans, corporate
bonds, and lines of credit used to
finance operations or investment
activities
- Liabilities arising from short sales
and other trading activities where
the firm sells securities it does not
own, with an obligation to buy them
back in the future

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- Securities held on behalf of clients Payables and accrued expenses
in brokerage or custody accounts, - Amounts owed to vendors,
including stocks, bonds mutual suppliers, and service providers for
funds and other investment goods and services received but
products not yet paid for, as well as accrued
expenses such as salaries, utilities
Derivative instruments and rent
- Financial contracts whose value is
derived from the performance of Client liabilities
underlying assets, such as futures, - Liabilities arising from transactions
options, swaps and forward with clients, including unsettled
contracts trades, margin loans, and other
obligations owed to customers and
Loans and advances counterparties
- Loans extended to clients, margin
loans for securities trading, and Derivative liabilities
other credit facilities provided by - Obligations associated with
the firm derivative contracts, such as
futures, options, swaps, and
Property & equipment forward contracts, including mark-
- Physical assets owned by the firm, to-market losses and potential
including office buildings, computer future payments
systems, furniture and other
infrastructure Tax liabilities
- Taxes payable to government
Goodwill and intangible assets authorities, including income taxes,
- The value of acquired businesses, payroll taxes, and sales taxes
customer relationships, brand based on the firms earnings and
names and other intangible assets business activities

Deposits and other liabilities Provisions and reserves

- Funds held in custody for clients, - Contingent liabilities set aside for
client margin deposits, and other potential losses, legal claims,
liabilities owed to customers and regulatory fines and other future
counterparties obligations that may arise

Deferred revenue
- Liabilities associated with prepaid
fees, subscriptions, or other
revenue streams received in
advance but not yet earned, which
will be recognized as revenue over
time

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REGULATIONS OF SECURITIES
See R.A. No.8799, The Securities Regulation Code
The state shall establish a socially conscious, free market that regulates itself, encourage
the widest participants of ownership in enterprises, enhance the democratization of
wealth, promote the development of capital market, protect investors, ensure full and fair
disclosure about securities, minimize if not totally eliminate insider trading and other
fraudulent or manipulative device and practices which create distortion in the free market.
This Code shall be administered by the Securities and Exchange Commission (SEC)
The SEC oversees securities exchanges, securities brokers and dealers, investment
advisors, and mutual funds in an effort to promote fair dealing, the disclosure of important
market information and to prevent fraud.

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INVESTMENT COMPANIES
Investment companies are financial institutions that pool the financial resources of
individuals and companies and invest those resources in diversified portfolios of assets.
Open-end mutual funds(the largest portion of investment company business) sell new
shares to investors and redeem outstanding shares on demand at their fair market values.
They provide opportunities for small investors to invest in a liquid and diversified portfolio
of financial securities at a lower price per unit of risk than could be achieved by investing
in individual securities.
Mutual fund is an investment fund that pools money from many investors to purchase
securities such as stocks, bonds and short-term debt. The combined holdings of the
mutual fund are known as its portfolio. Investors buy shares in mutual funds. Each share
represents an investor’s part ownership in the fund and the income it generates.
The mutual fund industry is usually considered to have two sectors: short-term funds and
long-term funds. Long-term funds comprise equity funds(composed of common and
preferred stock securities), bond funds(composed of fixed-income securities with a
maturity of over one year), and hybrid funds(composed of both stock and bond securities).
Short-term funds comprise taxable money market mutual funds and tax exempt money
market mutual funds.
Why do people buy mutual funds?
Mutual funds are a popular choice among investors because they generally offer the
following features:
- Professional management. The fund managers do the research for you. They
select the securities and monitor the performance.
- Diversification or Don’t put all your eggs in one basket. Mutual funds typically invest
in a range of companies and industries. This helps to lower your risk if one
company fails.
- Affordability. Most mutual funds set a relatively low peso amount for initial
investment and subsequent purchases.
- Liquidity. Mutual fund investors can easily redeem their shares at any time, for the
current net asset value plus any redemption fees.
Mutual Fund Regulation
Because mutual funds manage and invest small investor savings, this industry is heavily
regulated. Indeed, many regulations have been enacted to protect investors against
possible abuses by mutual fund managers. The SEC is the primary regulator of mutual
funds. Specifically, the Securities Act of 1933 requires a mutual fund to file a registration
statement with the SEC and set rules and procedures regarding a fund’s prospectus that
it send to investors.

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PENSION FUNDS
Pension funds are similar to life insurance companies and mutual funds in that all three
attract small savers’ funds and invest them in the financial markets to be liquidated at a
later date. Pension funds offer savings plans through which fund participants accumulate
tax-deferred savings during their working years before withdrawing them during their
retirement years.
Pension funds are investment pools set up by employers, governments or other
organizations to provide retirement income for employees. These funds are typically
funded by contributions from both the employer and the employee during the individual’s
working years, and the money is invested in various financial instruments to grow over
time. When the employee retires, they receive regular payments from the pension fund
as a source of income during retirement.
Pension funds typically aggregate large sums of money to be invested into the capital
markets such as stock and bond markets to generate profit(returns).
Type of Pension Fund
1. Private Pension Fund. Funds administered by a private corporation.
2. Public Pension Fund. Funds administered by government.

Defined Benefit vs Defined Contribution Pension Funds

A pension plan governs the operations of a pension fund. Pension funds can be
distinguished by the way contributions are made and benefits are paid. A pension
fund is either a defined benefit fund or a defined contribution fund. In a defined
benefit pension fund, the corporate employer agrees to provide the employee a
specific cash benefit upon retirement, based on a formula that considers such
factors as years of employment and salary during employment. The types of
defined benefit fund are flat benefit, career average or final pay formula.
1. Flat benefit formula. Pension fund that pays flat amount for every year of
employment.
2. Career average formula. Pension fund that pays retirement benefits based on
the employee’s average salary over the entire period of employment.
3. Final pay formula. Pension fund that pays retirement benefits based on a
percentage of the average salary during a specified number of years at the end
of the employee’s career times the number of years of service.
Under defined benefit pension funds, the employer should set aside sufficient
funds to ensure that it can meet the promised payments. When sufficient funds are
available, the pension fund is said to be fully funded. Frequently, pension funds do
not have sufficient funds available to meet all future promised payments, in which
case the fund is said to be underfunded. While underfunding is not illegal, the

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 pension fund is required by law to meet all of its payment obligations. Occasionally,
pension funds have more than enough funds available to meet the required future
payouts. In this case, the fund is said to be overfunded.
With a defined contribution pension fund, the employer does not precommit to
providing a specified amount to the pension fund during the employee’s working
years. The final retirement benefit is then based on total employer contributions,
any additional employee contributions and any gains or losses on the investments
purchased by the fund with these contributions.

Social Security System (SSS) & Government Service Insurance System(GSIS)

In the Philippines, the pension program consists of the Social Security System (SSS) and
the Government Service Insurance System(GSIS). The SSS provides benefits to all
private employees and self-employed persons. The GSIS provides benefits to all
employees in the public sector.
 The Government Service Insurance System (GSIS)/Paseguruhan ng mga
Naglilingkod sa Pamahalaan is a government-owned and controlled corporation
(GOCC) of the Philippines. Created by Commonwealth Act No.186 and R.A
8291(GSIS Act of 1997), GSIS is a social insurance institution that provides a
defined benefit scheme under the law. It insures its members against the
occurrence of certain contingencies in exchange for their monthly premium
contributions.

GSIS members are entitled to an array of social security benefits such as life
insurance benefits, separation or retirement benefits and disability benefits.

GSIS is also the administrator of the general Insurance Fund virtue of RA 656,
Property Insurance Law. It provides insurance coverage to government assets and
properties that have government insurable interests.

 Social Security System (SSS)/ Paseguruhan ng Kapanatagang Panlipunan is a

state-run, social insurance program in the Philippines to workers in the private,
professional and informal sectors. SSS is established by virtue of RA No. 1161,
better known as the Social Security Act of 1954. This law was later amended by
RA No. 8282 in 1997.

SSS provides death, funeral, maternity leave, permanent disability, retirement,

sickness and involuntary separation/unemployment benefits. The employees’
compensation (EC) program provide double compensation to workers who had

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illness, accident during work related activities, or died. EC benefits are granted
only to members with employers other than themselves.

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