Tricky Schweser Inflation question

Tim forecasted inflation rate to decrease. If inflation actually increases, which account is most at risk?

A. Defined benefit plan

B. individual investor

C. property-and-casualty insurance


Answer is B.

Rationale: Inflation increases investor’s cost

I remember seeing that somewhere in the book (forgot where I saw it).

I would think C is also correct.

Insurance companies benefit from inflation – they pay out less in real terms.

why didn’t I think of that…I was thinking in nominal terms…

Is this a Qbank question? what’s the question #?

I remember that I chose the wrong answer. It seems that property-and-casualty insurance companies have the expertise to hedge the inflation. But in real world, I thought the individual investor could have a raise in salary to cover the inflation rate?-:).

The question is not from Qbank. it is from 2012 schweser note #2.

page 178 Q 3

Don’t property and casualty cos. pay some claims at replacement cost?

yes , but those replacement dollars grow at the same rates as their premium income approximately . In other words they can pass on costs ( subject to some amount of regulation )

Why would we assume that insurance companies can pass along cost increases any differerntly than individuals? Further, insurance cos are locked in to pay claims, while individuals can adjust spending habits.

To me, it’s a typically vague Schweser question.

I think it mostly has to with individuals and their salary. You are receiving fixed income. If inflation is higher than expected, you planned all your expenses based on a set salary, which is now worth less. DB plans grow with inflation and Life Insurance companies, as someone noted already, pay out fixed amounts. I would not expect to see a question like this on the exam without any context so I wouldn’t worry too much about it.

There is a full item set on this actually, I only pulled out the relavant material.

Thanks, passme.

Interesting question…yea schweser likes these grey questions with incomplete fact patterns but CFA loves em too. I thought it would be C because of the replacement cost coverage and frankly I dont know that the individual investors cant hedge for inflation and better or worse than the insurance company can ramp up premiums.

theres the real world and then theres the test

I think Schweser lives in an alternate universe. They were helpful at Level II, but not at Level III.