11
Measuring Risk/Reward Tradeoffs andMeasuring Risk/Reward Tradeoffs and Financial/Strategic Planning using DFA Financial/Strategic Planning using DFA
Session I: Risk / Return Measurement Session I: Risk / Return Measurement Session II: Risk / Return ManagementSession II: Risk / Return Management
Russ BinghamRuss Bingham
Vice President and Director of Corporate ResearchVice President and Director of Corporate Research
Hartford Financial ServicesHartford Financial Services
CAS Seminar on Dynamic Financial AnalysisCAS Seminar on Dynamic Financial Analysis
June 7, 2001June 7, 2001
22
ContentsContents Session I - Risk/Return MeasurementSession I - Risk/Return Measurement
DFA Objectives and Practical QuestionsDFA Objectives and Practical Questions Project DimensionsProject Dimensions Describing Uncertainty and RiskDescribing Uncertainty and Risk Insurance Risk Transfer Processes at WorkInsurance Risk Transfer Processes at Work Risk / Return PrinciplesRisk / Return Principles Risk MetricsRisk Metrics Practical QuestionsPractical Questions
Session II – Risk / Return ManagementSession II – Risk / Return Management Two Key Questions – What Price and How Much Capital?Two Key Questions – What Price and How Much Capital? Total Return Model and ExampleTotal Return Model and Example Determination of Price and Equity RequirementsDetermination of Price and Equity Requirements Risk-Adjusted Return vs Risk-Adjusted LeverageRisk-Adjusted Return vs Risk-Adjusted Leverage Underwriting vs Investment Risk / ReturnUnderwriting vs Investment Risk / Return Risk / Return Summary Comments and Concerns Risk / Return Summary Comments and Concerns
33
Session I – Risk / Return MeasurementSession I – Risk / Return Measurement
44
DFA Risk Based Financial Model ObjectivesDFA Risk Based Financial Model Objectives
To develop a financial model which supports senior management To develop a financial model which supports senior management strategicstrategic decision making by providing a framework for guiding the decision making by providing a framework for guiding the construction of an optimal construction of an optimal portfolioportfolio of underwriting businesses and of underwriting businesses and investment classes in which underwriting, investment and financial investment classes in which underwriting, investment and financial riskrisk are viewed on an integrated, enterprise-wide basis, subject to are viewed on an integrated, enterprise-wide basis, subject to operational and financial operational and financial constraintsconstraints, ultimately to maximize , ultimately to maximize shareholder shareholder value creationvalue creation..
To initiate steps to instill a greater degree of financial discipline in To initiate steps to instill a greater degree of financial discipline in company operations company operations
Specifically, to address the following needsSpecifically, to address the following needs ALMALM - Optimize aggregate company underwriting and investment - Optimize aggregate company underwriting and investment
portfolioportfolio Capital AllocationCapital Allocation - Determine surplus requirements and risk adjusted - Determine surplus requirements and risk adjusted
profit targets for underwriting lines of business and investment which profit targets for underwriting lines of business and investment which reflects aggregate covariance / diversification benefitsreflects aggregate covariance / diversification benefits
55
DFA Objectives (continued)DFA Objectives (continued)
PricingPricing - Develop methods which deal consistently with the - Develop methods which deal consistently with the risk transfer pricing activities within underwriting, investment risk transfer pricing activities within underwriting, investment
and finance, including covariance / diversification benefits.and finance, including covariance / diversification benefits. – Underwriting risk Underwriting risk Ratemaking and Policy PricingRatemaking and Policy Pricing
– Investment risk Investment risk Required return on invested assetsRequired return on invested assets
– Shareholder risk Shareholder risk Cost of capital Cost of capital ReservingReserving - Integrate loss reserve range of value estimates - Integrate loss reserve range of value estimates RatingsRatings - Provide foundation for ratings (lead emerging trends - Provide foundation for ratings (lead emerging trends
by rating agency and states and create opportunities to by rating agency and states and create opportunities to influence same)influence same)
Other - Other -
66
Practical QuestionsPractical Questions
What questions are being asked?What questions are being asked? Focus on specific issuesFocus on specific issues
Who is asking the question? Are there other customers?Who is asking the question? Are there other customers? Present to level of knowledge / sophisticationPresent to level of knowledge / sophistication
Who will pass judgment on results?Who will pass judgment on results? Educate to level of acceptance / buy-in Educate to level of acceptance / buy-in
Is orientation strategic or operational?Is orientation strategic or operational? Level of detail / complexityLevel of detail / complexity Quality / credibility of inputsQuality / credibility of inputs Relevance / accuracy of resultsRelevance / accuracy of results
Who will be running the model?Who will be running the model? In-house requires greater customizationIn-house requires greater customization
77
Practical Questions (Continued)Practical Questions (Continued)
Is this a one-time or on-going exercise?Is this a one-time or on-going exercise? Required model timeliness / responsiveness Required model timeliness / responsiveness
Is focus on reported earnings or economic value?Is focus on reported earnings or economic value? Select appropriate metricsSelect appropriate metrics
How do metrics relate to those used in other areas, such How do metrics relate to those used in other areas, such as planning, measurement of operating performance, and as planning, measurement of operating performance, and incentive compensation?incentive compensation?
Since DFA is all about risk, is an “educational” process Since DFA is all about risk, is an “educational” process needed to establish a risk / return decision framework?needed to establish a risk / return decision framework? A risk / return discipline is a necessity if the full value A risk / return discipline is a necessity if the full value
of DFA is to be realizedof DFA is to be realized
88
Project DimensionsProject Dimensions
Balance sheet, income, cash flow statementsBalance sheet, income, cash flow statements
Development “triangles” of policy / accident Development “triangles” of policy / accident period into calendar periodperiod into calendar period
Accounting valuation - conventional (Stat or Accounting valuation - conventional (Stat or GAAP) and Economic (present value in runoff or GAAP) and Economic (present value in runoff or as ongoing firm)as ongoing firm)
99
Policy (or Accident) / Calendar PeriodPolicy (or Accident) / Calendar PeriodDevelopment TrianglesDevelopment Triangles
Balance Sheet, Income, Cash FlowBalance Sheet, Income, Cash Flow
Calendar PeriodCalendar Period Policy Policy Historical Historical FutureFuture Total Total PeriodPeriod 19971997 19981998 19991999 20002000 20012001 UltimateUltimate PriorPrior X X X X X X X X X …... --> Sum X …... --> Sum 19971997 X X X X X X X X X …... --> Sum X …... --> Sum 19981998 X X X X X X X …... --> Sum X …... --> Sum
19991999 X X X X X …... --> Sum X …... --> Sum2000 2000 X X X …... --> Sum X …... --> Sum2001 2001 X …... --> Sum X …... --> Sum
======== ==== ==== ======== ======== ======== ReportedReported Sum Sum Sum Sum Sum Sum Sum Sum Sum Sum CalendarCalendar
Note: Rates and Economic valuation are oriented across the policy period “row” Note: Rates and Economic valuation are oriented across the policy period “row” but regulatory review and wall street focus are typically on the calendar but regulatory review and wall street focus are typically on the calendar “column” sum“column” sum
1010
Project Dimensions (continued)Project Dimensions (continued)
Distributional outcomes of important metricsDistributional outcomes of important metrics Risk vs Return Principles applicable to Underwriting, Risk vs Return Principles applicable to Underwriting,
Investment and Finance activitiesInvestment and Finance activities Reflect Covariance / Diversification Benefits and internal / Reflect Covariance / Diversification Benefits and internal /
external variable linkagesexternal variable linkages With external economic factors (e.g. inflation and interest With external economic factors (e.g. inflation and interest
rates)rates) Among lines of business and investment classesAmong lines of business and investment classes Across calendar / accident yearsAcross calendar / accident years Over development time (e.g. loss payout)Over development time (e.g. loss payout) Among variables (e.g. loss vs expense, interest rates vs Among variables (e.g. loss vs expense, interest rates vs
mortgage prepayments)mortgage prepayments)
1111
DFA Simulation ModelsDFA Simulation ModelsDescribing Insurance Uncertainty and RiskDescribing Insurance Uncertainty and Risk
Input ParametersInput Parameters Expected value of Expected value of magnitudemagnitude and and timingtiming of all financial of all financial
variables - premium, loss, expense, tax, investment yield, variables - premium, loss, expense, tax, investment yield, surplus, etc.surplus, etc.
Variability (i.e. distributions) of same financial variablesVariability (i.e. distributions) of same financial variables Correlations among variablesCorrelations among variables
Output Distributions and UseOutput Distributions and Use Rates of return - underwriting, investment, and shareholder Rates of return - underwriting, investment, and shareholder
total return with respective risk versus return tradeoffstotal return with respective risk versus return tradeoffs Surplus and surplus exposure (e.g. ruin probability, Surplus and surplus exposure (e.g. ruin probability,
expected policyholder deficit, and expected shareholder expected policyholder deficit, and expected shareholder deficit) deficit)
Risk / Return evaluation framework for decision makingRisk / Return evaluation framework for decision making
1212
Insurance Risk Transfer Processes at WorkInsurance Risk Transfer Processes at Work
Modeling the uncertainty (i.e., volatility) and risk / return Modeling the uncertainty (i.e., volatility) and risk / return characteristics embodied in the insurance process is at the characteristics embodied in the insurance process is at the core of DFA.core of DFA.
Underwriting risk from policyholders to companyUnderwriting risk from policyholders to company Underwriting risk from company to reinsurers or from Underwriting risk from company to reinsurers or from
company to financial markets via securitizationcompany to financial markets via securitization Investment risk from financial markets to company with Investment risk from financial markets to company with
respect to investment of company assetsrespect to investment of company assets Finance risk from company to shareholders (or Finance risk from company to shareholders (or
bondholders) as capital is raisedbondholders) as capital is raised
1313
Risk / Return PrinciplesRisk / Return Principles Insurance = underwriting, investment and leverageInsurance = underwriting, investment and leverage Volatility is uncertainty of resultVolatility is uncertainty of result Risk is exposure to adverse resultRisk is exposure to adverse result Higher Higher UnderwritingUnderwriting and and InvestmentInvestment returns are required when returns are required when
volatility is greatervolatility is greater Risk transfer pricing activities (policyholder, company & Risk transfer pricing activities (policyholder, company &
shareholder) are based on risk parametersshareholder) are based on risk parameters This can be accomplished independently of leverageThis can be accomplished independently of leverage
TotalTotal return is underwriting and investment return leveraged return is underwriting and investment return leveraged Leverage simultaneously magnifies total return and volatility Leverage simultaneously magnifies total return and volatility
in total return, but NOT necessarily riskin total return, but NOT necessarily risk Diversification / covariance benefits with respect to underwriting, Diversification / covariance benefits with respect to underwriting,
investment and finance (i.e. surplus) exist in the investment and finance (i.e. surplus) exist in the aggregateaggregate beyond the sum of individual businesses and functions.beyond the sum of individual businesses and functions.
1414
Total Return, Volatility and RiskTotal Return, Volatility and Risk
1515
Risk / Return Decision Framework – Risk MetricsRisk / Return Decision Framework – Risk Metrics Policyholder oriented risk metricsPolicyholder oriented risk metrics
Probability of ruinProbability of ruin Expected policyholder deficit (EPD)Expected policyholder deficit (EPD)
Shareholder oriented risk metricsShareholder oriented risk metrics Variability in total return (Variability in total return (RR)) Sharpe RatioSharpe Ratio Value at risk (VAR)Value at risk (VAR) Tail Value at Risk (TVAR)Tail Value at Risk (TVAR) Expected Shareholder Deficit Expected Shareholder Deficit Probability of surplus drawdown (PSD)Probability of surplus drawdown (PSD) Risk Coverage Ratio (RCR)Risk Coverage Ratio (RCR) Others …Others …
RBC and other Rating Agency measuresRBC and other Rating Agency measuresIn one way or another all risk measures address theIn one way or another all risk measures address the
likelihood and/or the severity of an adverse outcome likelihood and/or the severity of an adverse outcome
1616
Total Return Risk SchematicTotal Return Risk Schematic
1717
Comparison of Policyholder and Shareholder Risk MetricsComparison of Policyholder and Shareholder Risk Metrics
Shortcomings of Policyholder oriented risk metricsShortcomings of Policyholder oriented risk metrics Narrow focus on loss typically does not reflect variability in loss payment, Narrow focus on loss typically does not reflect variability in loss payment,
premium amount and collection, expense amount and payment and the premium amount and collection, expense amount and payment and the impact of taxes and investment income on float and surplusimpact of taxes and investment income on float and surplus
Reliability of results is questionable due to basis upon extreme outcomes Reliability of results is questionable due to basis upon extreme outcomes in tail of loss distributionin tail of loss distribution
Inconsistency between measures of risk and return make management of Inconsistency between measures of risk and return make management of the risk/return tradeoff difficult the risk/return tradeoff difficult
Advantages of Shareholder oriented risk metricsAdvantages of Shareholder oriented risk metrics Reflects all sources of variabilityReflects all sources of variability Captures all relevant factors that impact bottom lineCaptures all relevant factors that impact bottom line Typically embodies more reliabilityTypically embodies more reliability Shareholder focus is more in tune with broader financial marketplaceShareholder focus is more in tune with broader financial marketplace Should allow for diversification effects to be incorporated Should allow for diversification effects to be incorporated Addresses policyholder risksAddresses policyholder risks Provides an important link between price adequacy and solvencyProvides an important link between price adequacy and solvency Consistency in measures of risk and returnConsistency in measures of risk and return
1818
Session II – Risk /Return Management Session II – Risk /Return Management
1919
Dealing With Uncertainty and Risk -Dealing With Uncertainty and Risk -Two Key QuestionsTwo Key Questions
A critical objective of DFA modeling is to provide a A critical objective of DFA modeling is to provide a framework for addressing the risk / return tradeoff, framework for addressing the risk / return tradeoff, specifically addressing the following two questions:specifically addressing the following two questions:
What price should be charged (i.e. what is appropriate What price should be charged (i.e. what is appropriate risk-adjusted return)?risk-adjusted return)?
How much capital is needed (i.e. what is appropriate risk-How much capital is needed (i.e. what is appropriate risk-adjusted leverage)?adjusted leverage)?
2020
Total Return ModelTotal Return Model
Fully integrated balance sheet, income and cash flow Fully integrated balance sheet, income and cash flow statementsstatements
Reconciliation of policy / accident period with calendar periodReconciliation of policy / accident period with calendar period Nominal and economic valuationsNominal and economic valuations Clearly and consistently stated parameter estimatesClearly and consistently stated parameter estimates
Premium, loss and expense amountPremium, loss and expense amount Timing of premium collection, loss and expense paymentTiming of premium collection, loss and expense payment Investment yield ratesInvestment yield rates Underwriting and investment tax ratesUnderwriting and investment tax rates Leverage ratio and method (preferably risk-based) by which Leverage ratio and method (preferably risk-based) by which
surplus flows are controlled, including distribution of profitssurplus flows are controlled, including distribution of profits ……..
2121
Total Risk ModelTotal Risk Model
Utilization of Return Model adapted to include Utilization of Return Model adapted to include
Distributional assumptions of all parametersDistributional assumptions of all parameters Risk-based pricing algorithm for underwriting and Risk-based pricing algorithm for underwriting and
investment riskinvestment risk Risk-adjusted leverage algorithmRisk-adjusted leverage algorithm Quantification of underwriting, investment and Quantification of underwriting, investment and
leverage risk/return impact leverage risk/return impact
2222
Model ExampleModel Example Initial Underwriting CaseInitial Underwriting Case
Policy booked at beginning or yearPolicy booked at beginning or year $900 Premium, collected at policy inception$900 Premium, collected at policy inception $1000 Loss, single payment after 3 years$1000 Loss, single payment after 3 years No ExpenseNo Expense 5% Investment Rate 5% Investment Rate 0% Tax Rate0% Tax Rate 3 to 1 Liability to Surplus Ratio3 to 1 Liability to Surplus Ratio Initial Benchmark ROE = 9%Initial Benchmark ROE = 9% Losses vary with a standard deviation of $200 (20% CV)Losses vary with a standard deviation of $200 (20% CV)
Risk/Return ProblemRisk/Return Problem What is correct premium to charge?What is correct premium to charge? What is required benchmark surplus?What is required benchmark surplus?
2323
A. Single Policy CalendarizationA. Single Policy Calendarization
2424
Determination of Price and Benchmark EquityDetermination of Price and Benchmark Equity
A. Step 1: Total return distribution is generated using overall A. Step 1: Total return distribution is generated using overall average leverage of 3 to 1.average leverage of 3 to 1. Risk is defined as the probability that the total return falls Risk is defined as the probability that the total return falls
below the breakeven, or risk-free rate of return. Same for below the breakeven, or risk-free rate of return. Same for all lines of business.all lines of business.
B. Step 2: The price is determined which satisfies the B. Step 2: The price is determined which satisfies the specified risk condition. This establishes risk-adjusted return.specified risk condition. This establishes risk-adjusted return. Underwriting price expressed as target combined ratio Underwriting price expressed as target combined ratio
C. Step 3: Leverage is altered to restate all returns at 15%. C. Step 3: Leverage is altered to restate all returns at 15%. This establishes risk-adjusted leverage. This establishes risk-adjusted leverage. Change in leverage does not affect Premium and Risk Change in leverage does not affect Premium and Risk
determined in Step 2 determined in Step 2
2525
Total Return, Volatility and RiskTotal Return, Volatility and Risk
2626
B. Single Policy Calendarization – Risk-Adjusted Price DeterminedB. Single Policy Calendarization – Risk-Adjusted Price Determined
2727
C. Single Policy Calendarization – Risk-Adjusted Leverage DeterminedC. Single Policy Calendarization – Risk-Adjusted Leverage Determined
2828
Determination of Benchmark Equity (contd.): Determination of Benchmark Equity (contd.): Risk-Adjusted ReturnRisk-Adjusted Return
Step 2 establishes the risk / return tradeoff lineStep 2 establishes the risk / return tradeoff line
2929
Determination of Benchmark Equity (contd.):Determination of Benchmark Equity (contd.):Risk-Adjusted LeverageRisk-Adjusted Leverage
Step 3 Restates all businesses to a uniform 15% return withStep 3 Restates all businesses to a uniform 15% return with
uniform volatility via altered risk-adjusted leverageuniform volatility via altered risk-adjusted leverage
3030
Risk-Adjusted Return vs Risk-Adjusted LeverageRisk-Adjusted Return vs Risk-Adjusted Leverage
Two equivalent alternatives which differ in the form of Two equivalent alternatives which differ in the form of presentationpresentation At same premium & combined ratioAt same premium & combined ratio - - Maintain a fixed leverage, but vary the total return based Maintain a fixed leverage, but vary the total return based
on volatility on volatility – This avoids allocation of surplus to lines of businessThis avoids allocation of surplus to lines of business
Maintain a fixed total return, but vary leverage to adjust Maintain a fixed total return, but vary leverage to adjust for volatilityfor volatility– This makes regulatory environment less contentiousThis makes regulatory environment less contentious
Introduction of surplus (via the application of a varying Introduction of surplus (via the application of a varying leverage ratio) is optional (but helps communication).leverage ratio) is optional (but helps communication).
A leverage ratio (and thus surplus) serves a similar purpose in A leverage ratio (and thus surplus) serves a similar purpose in application as do IBNR factors, yields, expense ratios and tax application as do IBNR factors, yields, expense ratios and tax rates. While they do not exist at the individual policy level, rates. While they do not exist at the individual policy level, their necessary consideration in ratemaking and performance their necessary consideration in ratemaking and performance measurement requires introduction by formula. measurement requires introduction by formula.
3131
Pricing for Risk and Volatility of ReturnPricing for Risk and Volatility of Return
The Risk Pricing “Line” assumes higher returns from underwriting The Risk Pricing “Line” assumes higher returns from underwriting and investment functions needed to compensate for greater and investment functions needed to compensate for greater volatility (i.e., uncertainty) in order to satisfy desired risk criteriavolatility (i.e., uncertainty) in order to satisfy desired risk criteria
Risk and Return metrics are consistent in that they are based on Risk and Return metrics are consistent in that they are based on the same variablethe same variable
Risk pricing is independent of LeverageRisk pricing is independent of Leverage Leverage magnifies underwriting and investment risk pricing Leverage magnifies underwriting and investment risk pricing
lines, creating a total return line, while maintaining risk profilelines, creating a total return line, while maintaining risk profile Change in leverage causes total returns to move along lineChange in leverage causes total returns to move along line
As long as prices are on risk-based line, leverage is irrelevantAs long as prices are on risk-based line, leverage is irrelevant YES this means that adequate risk pricing which generates a fair YES this means that adequate risk pricing which generates a fair
total return connects the interests of the shareholder and the total return connects the interests of the shareholder and the policyholder and is in the best interest of bothpolicyholder and is in the best interest of both Adequate returns directly control solvency riskAdequate returns directly control solvency risk
3232
Underwriting and Investment Income Mix Underwriting and Investment Income Mix Characteristics Drive Risk / ReturnCharacteristics Drive Risk / Return
The mix of underwriting and investment income varies in each The mix of underwriting and investment income varies in each line of businsess depending on its respective cash flow line of businsess depending on its respective cash flow characteristics - long tail lines generate a greater proportion of characteristics - long tail lines generate a greater proportion of income from investment than short tail linesincome from investment than short tail lines
Underwriting income volatility is generally greater than Underwriting income volatility is generally greater than investment income volatility, especially in lines with catastrophe investment income volatility, especially in lines with catastrophe exposureexposure
Good cholesterol, bad cholesterolGood cholesterol, bad cholesterol Commercial lines generally derive a greater share of income Commercial lines generally derive a greater share of income
from the less volatile investment income componentfrom the less volatile investment income component Personal lines depend on a greater share of income from Personal lines depend on a greater share of income from
the more volatile underwriting component the more volatile underwriting component This mix favors commercial lines over personal in terms of This mix favors commercial lines over personal in terms of
the risk / return tradeoff the risk / return tradeoff
3333
Underwriting vs Investment Risk / ReturnUnderwriting vs Investment Risk / Return
Underwriting and Investment each contribute to risk and returnUnderwriting and Investment each contribute to risk and return
While higher risk investments can be used in ratemaking, the While higher risk investments can be used in ratemaking, the risk transfer pricing principles that apply to this added risk transfer pricing principles that apply to this added investment risk must still be reflectedinvestment risk must still be reflected
Properly separated and priced underwriting and investment risk Properly separated and priced underwriting and investment risk largely eliminates the disagreement as to what investment largely eliminates the disagreement as to what investment strategy should be built into premium rates. Offsetting occurs strategy should be built into premium rates. Offsetting occurs since higher investment risk requires higher price (yield) and since higher investment risk requires higher price (yield) and increased surplus to achieve target ROE levelincreased surplus to achieve target ROE level
3434
Risk/Return Summary Comments and ConcernsRisk/Return Summary Comments and Concerns Allocation versus attributionAllocation versus attribution
Objective is not simply allocation of given total company Objective is not simply allocation of given total company capitalcapital
Objective is better viewed as the determination of capital Objective is better viewed as the determination of capital required to satisfy desired total company risk/return criteria required to satisfy desired total company risk/return criteria which reflects the risk/return characteristics of individual which reflects the risk/return characteristics of individual underwriting and investment product risks along with the underwriting and investment product risks along with the diversification benefits provided by them diversification benefits provided by them
The Insurance processThe Insurance process Insurance is a multi-period processInsurance is a multi-period process Liabilities, not premium, drive underwriting riskLiabilities, not premium, drive underwriting risk
Claims (i.e. incurred loss) may be the most significant source of Claims (i.e. incurred loss) may be the most significant source of underwriting risk, but other underwriting variables and all cash underwriting risk, but other underwriting variables and all cash flows matter flows matter
Tax and investment income (on float and surplus) also importantTax and investment income (on float and surplus) also important
3535
Summary Comments and Concerns (Continued)Summary Comments and Concerns (Continued)
Delineate Underwriting, Investment and Finance risk / return Delineate Underwriting, Investment and Finance risk / return contributions to assure consistency in risk pricingcontributions to assure consistency in risk pricing
Underwriting and investment risk addressed through pricing, not Underwriting and investment risk addressed through pricing, not capitalcapital
Solvency risk is controlled by price adequacy, not capital levelsSolvency risk is controlled by price adequacy, not capital levels Accounting and economic value based financials differAccounting and economic value based financials differ Choice of risk metric from among several available is criticalChoice of risk metric from among several available is critical Capital, investment income, taxes, and IBNR, do not exist at the Capital, investment income, taxes, and IBNR, do not exist at the
underwriting product level, yet all are important elements which underwriting product level, yet all are important elements which affect risk/return and must be reflected (by formula) in the affect risk/return and must be reflected (by formula) in the product pricing processproduct pricing process
Need for consistency in risk and return metrics in order to Need for consistency in risk and return metrics in order to manage risk/return tradeoffmanage risk/return tradeoff