mid-life investor's life insurance needs.

CFA Level III
#1

I do not seem to digest the concept.

Any better explanation anywhere?

#2

Looking forward to magician’s artical/input on this.

#3

what concept are you talking about here?

#4

Life insurance is of decreasing utility as one ages and their human capital approaches 0.

#5

I’ll try again and come back… I guess my question was too high level.

#6

for a young investor who has a long working life ahead of him - it makes sense to pay a premium, buy life insurance, in order to protect his human capital. If he died now - the life insurance would pay off - and provide his family with the funds.

as he grows older - he has less human capital to protect. He needs to consider would it be worthwhile paying the life insurance premium for protection. Is he getting as much life insurance protection as he would have obtained when he was younger. Also as he grows older - his premium increases. So that is another consideration to make.

#7

This is what I don’t understand.

If there is a strong positive correlation of FC and HC, this leads to a more conservative asset allocation and less need for life insurance.

A classic example of this issue is the investor who concentrates his portfolio holdings in the stock of his employer. He has linked both his future income and portfolio return to the same company. Ideally he would reduce the holding of employer stock to lower the correlation of FC and HC, but if this is not possible, any other FC assets should shift to lower risk. In this case of positively correlated HC and FC, the HC calculation should reflect a higher, riskier discount rate, which lowers the HC and therefore lowers the life insurance need.

I can’t get the point that if I invest in my employers stock, I’d need less life insurance.

#8

if your FC is good - that means you are covered - your HC is going to be bigger - the PV of all earnings over your life = HC - is going to be a pretty big lumpsum. (ideally that would be the case of low correlation between FC and HC - lower risk - so lower discount rate - so higher HC)

But your HC is also risky (due to both FC and HC in the same portfolio / stock) - so it would be discounted at a higher rate - so your HC now becomes a smaller # - and once it is small - there is no need to protect it with life insurance.

#9

ok understood… thanks…

i think i was thinking too practically. (may be with one of the biases)