In this chapter we introduce the concept of a policy value for a life insurance policy. Policy values are used to determine the economic or regulatory capital needed to remain solvent, and also to determine the profit or loss for the company over any time period.
We define the policy value as the expected value of future net cash flows for a policy in force, and distinguish gross premium policy values, which explicitly allow for expenses and for the full gross premium, from net premium policy values, where expenses are excluded from the outgoing cash flows, and only the net premium is counted as income.
We show how to calculate policy values recursively, and how to analyse profit by source. We derive Thiele's differential equation for policy values -- the continuous time equivalent of the recursions for policies with annual cash flows.
We consider how policy values can be used as the basis for policy alterations.
We show how a retrospective valuation has connections both with asset shares and with the policy values . Finally, we define modofied net premium policy values, and consider specifically the Full Preliminary term reserve.