Institute of Actuaries of India

Subject
CT3 Probability and
Mathematical Statistics
For 2017 Examinations
Subject CT3 Probability and Mathematical Statistics Core Technical

Aim

The aim of the Probability and Mathematical Statistics subject is to provide a grounding in the aspects
of statistics and in particular statistical modelling that are of relevance to actuarial work.

Links to other subjects

Subjects CT4 Models and CT6 Statistical Methods: use the statistical concepts and models
covered in this subject. These are then developed further in other subjects in particular Subject ST1
Health and Care Specialist Technical, Subject ST7 General Insurance Reserving and Capital
Modelling Specialist Technical and Subject ST8 General Insurance Pricing Specialist Technical.

Objectives

On completion of the subject the trainee actuary will be able to:

(i) Summarise the main features of a data set (exploratory data analysis).

1. Summarise a set of data using a table or frequency distribution, and display it

graphically using a line plot, a box plot, a bar chart, histogram, stem and leaf plot, or
other appropriate elementary device.

2. Describe the level/location of a set of data using the mean, median, mode, as
appropriate.

3. Describe the spread/variability of a set of data using the standard deviation, range,
interquartile range, as appropriate.

4. Explain what is meant by symmetry and skewness for the distribution of a set of data.

(ii) Explain the concepts of probability.

1. Explain what is meant by a set function, a sample space for an experiment, and an
event.

2. Define probability as a set function on a collection of events, stating basic axioms.

3. Derive basic properties satisfied by the probability of occurrence of an event, and

calculate probabilities of events in simple situations.

4. Derive the addition rule for the probability of the union of two events, and use the rule
to calculate probabilities.

5. Define the conditional probability of one event given the occurrence of another event,
and calculate such probabilities.

6. Derive Bayes Theorem for events, and use the result to calculate probabilities.

Page 2 Institute and Faculty of Actuaries

 Subject CT3 Probability and Mathematical Statistics Core Technical

7. Define independence for two events, and calculate probabilities in situations involving
independence.

(iii) Explain the concepts of random variable, probability distribution, distribution function,
expected value, variance and higher moments, and calculate expected values and probabilities
associated with the distributions of random variables.

1. Explain what is meant by a discrete random variable, define the distribution function
and the probability function of such a variable, and use these functions to calculate
probabilities.

2. Explain what is meant by a continuous random variable, define the distribution function
and the probability density function of such a variable, and use these functions to
calculate probabilities.

3. Define the expected value of a function of a random variable, the mean, the variance,
the standard deviation, the coefficient of skewness and the moments of a random
variable, and calculate such quantities.

4. Evaluate probabilities (by calculation or by referring to tables as appropriate) associated

with distributions.

5. Derive the distribution of a function of a random variable from the distribution of the
random variable.

(iv) Define a probability generating function, a moment generating function, a cumulant

generating function and cumulants, derive them in simple cases, and use them to evaluate
moments.

1. Define and determine the probability generating function of discrete, integer-valued

random variables.

2. Define and determine the moment generating function of random variables.

3. Define the cumulant generating function and the cumulants, and determine them for
random variables.

4. Use generating functions to determine the moments and cumulants of random variables,
by expansion as a series or by differentiation, as appropriate.

5. Identify the applications for which a probability generating function, a moment

generating function, a cumulant generating function and cumulants are used, and the
reasons why they are used.

Institute and Faculty of Actuaries Page 3

Subject CT3 Probability and Mathematical Statistics Core Technical

(v) Define basic discrete and continuous distributions, be able to apply them and simulate them in
simple cases.

1. Define and be familiar with the discrete distributions: geometric, binomial, negative
binomial, hypergeometric, Poisson and uniform on a finite set.

2. Define and be familiar with the continuous distributions: normal, lognormal,

exponential, gamma, chi-square, t, F, beta and uniform on an interval.

3. Define a Poisson process and note the connection between Poisson processes and the
Poisson distribution, and that a Poisson process may be equivalently characterised as:
(1) the distribution of waiting times between events, (2) the distribution of process
increments and (3) the behaviour of the process over an infinitesimal time interval.

4. Generate basic discrete and continuous random variables using simulation methods.

(vi) Explain the concepts of independence, jointly distributed random variables and conditional
distributions, and use generating functions to establish the distribution of linear combinations
of independent random variables.

1. Explain what is meant by jointly distributed random variables, marginal distributions

and conditional distributions.

2. Define the probability function/density function of a marginal distribution and of a

conditional distribution.

3. Specify the conditions under which random variables are independent.

4. Define the expected value of a function of two jointly distributed random variables, the
covariance and correlation coefficient between two variables, and calculate such
quantities.

5. Define the probability function/density function of the sum of two independent random
variables as the convolution of two functions.

6. Derive the mean and variance of linear combinations of random variables.

7. Use generating functions to establish the distribution of linear combinations of

independent random variables.

(vii) State the central limit theorem, and apply it.

1. State the central limit theorem for a sequence of independent, identically distributed
random variables.

2. Apply the central limit theorem to establish normal approximations to other

distributions, and to calculate probabilities.

Page 4 Institute and Faculty of Actuaries

 Subject CT3 Probability and Mathematical Statistics Core Technical

3. Explain and apply a continuity correction when using a normal approximation to a

discrete distribution.

(viii) Explain the concepts of random sampling, statistical inference and sampling distribution, and
state and use basic sampling distributions.

1. Explain what is meant by a sample, a population and statistical inference.

2. Define a random sample from a distribution of a random variable.

3. Explain what is meant by a statistic and its sampling distribution.

4. Determine the mean and variance of a sample mean and the mean of a sample variance
in terms of the population mean, variance and sample size.

5. State and use the basic sampling distributions for the sample mean and the sample
variance for random samples from a normal distribution.

6. State and use the distribution of the t-statistic for random samples from a normal
distribution.

7. State and use the F distribution for the ratio of two sample variances from independent
samples taken from normal distributions.

(ix) Describe the main methods of estimation and the main properties of estimators, and apply
them.

1. Describe the method of moments for constructing estimators of population parameters

and apply it.

2. Describe the method of maximum likelihood for constructing estimators of population

parameters and apply it.

3. Define the terms: efficiency, bias, consistency and mean squared error.

4. Define the property of unbiasedness of an estimator and use it.

5. Define the mean square error of an estimator, and use it to compare estimators.

6. Describe the asymptotic distribution of maximum likelihood estimators and use it.

(x) Construct confidence intervals for unknown parameters.

1. Define in general terms a confidence interval for an unknown parameter of a

distribution based on a random sample.

2. Derive a confidence interval for an unknown parameter using a given sampling

distribution.

Institute and Faculty of Actuaries Page 5

Subject CT3 Probability and Mathematical Statistics Core Technical

3. Calculate confidence intervals for the mean and the variance of a normal distribution.

4. Calculate confidence intervals for a binomial probability and a Poisson mean, including
the use of the normal approximation in both cases.

5. Calculate confidence intervals for two-sample situations involving the normal

distribution, and the binomial and Poisson distributions using the normal
approximation.

6. Calculate confidence intervals for a difference between two means from paired data.

(xi) Test hypotheses.

1. Explain what is meant by the terms null and alternative hypotheses, simple and
composite hypotheses, type I and type II errors, test statistic, likelihood ratio, critical
region, level of significance, probability-value and power of a test.

2. Apply basic tests for the one-sample and two-sample situations involving the normal,
binomial and Poisson distributions, and apply basic tests for paired data.

3. Use a 2 test to test the hypothesis that a random sample is from a particular
distribution, including cases where parameters are unknown.

4. Explain what is meant by a contingency (or two-way) table, and use a 2 test to test the
independence of two classification criteria.

(xii) Investigate linear relationships between variables using correlation analysis and regression
analysis.

1. Draw scatterplots for bivariate data and comment on them.

2. Define and calculate the correlation coefficient for bivariate data, explain its
interpretation and perform statistical inference as appropriate.

3. Explain what is meant by response and explanatory variables.

4. State the usual simple regression model (with a single explanatory variable).

5. Derive and calculate the least squares estimates of the slope and intercept parameters in
a simple linear regression model.

6. Perform statistical inference on the slope parameter in simple linear regression.

7. Calculate R2 (coefficient of determination) and describe its use to measure the goodness
of fit of a linear regression model.

8. Use a fitted linear relationship to predict a mean response or an individual response

with confidence limits.

Page 6 Institute and Faculty of Actuaries

 Subject CT3 Probability and Mathematical Statistics Core Technical

9. Use residuals to check the suitability and validity of a linear regression model.

10. State the usual multiple linear regression model (with several explanatory variables).

(xiii) Explain the concepts of analysis of variance and use them.

1. Describe the circumstances in which a one-way analysis of variance can be used.

2. State the usual model for a one-way analysis of variance and explain what is meant by
the term treatment effects.

3. Perform a simple one-way analysis of variance.

(xiv) Explain the concepts of conditional expectation and compound distribution, and apply them.

1. Define the conditional expectation of one random variable given the value of another
random variable, and calculate such a quantity.

2. Show how the mean and variance of a random variable can be obtained from expected
values of conditional expected values, and apply this.

3. Derive the moment generating function of the sum of a random number of independent,
identically distributed random variables (a compound distribution), and use the result to
calculate the mean and variance of such a distribution.

END OF SYLLABUS

Institute and Faculty of Actuaries Page 7