What needs to be considered when choosing base period for data?
- volume: needs to be sufficient to ensure credibility
- detail: if there is lots of variation in claims need lots of data
- relevance: the more historical the data, the less relevant the experience
- trends: period should be long enough to capture trends in claims frequency and severity
- unknowns: the most recent experience is also the most uncertainty because need to rely on outstanding claim estimates
Experience vs. Book Rating
- premium basis: on past experience of specific group/individual vs. based on entire book
- formula: RP = ZA + (1-Z)E where A is past experience and Z is credibility factor vs. Just E
- requires lots of past experience data rate pricing vs. generalised data needed
- volatility: premium volatile YoY based on claims experience vs. more stable pricing
- competitive: more competitive esp. if data very credible vs. could be expensive
- healthy: could be cheaper for healthy groups/indv vs. more expensive for healthy
Steps of pricing an individual policy
- Choose the pricing basis and approach (understand product and benefit design)
- Collect and check data, making sure to correct any errors.
- Split the data into homogenous groups based on the underlying relevant risk cells.
- Calculate a burning cost, or cost of the underlying risk benefit.
BCP = sum of claims/ total ETR or BCP = average claim amount * claims incidence rate - Make adjustments to the base values so that they are complete and relevant, representative of the expected period being priced for. This step is likely to require actuarial judgement and, in some cases, other expert input.
- Determine and calculate the assumptions needed
- Project forward the expected base cost of the risk benefit being priced.
- Adjust the base cost for other loadings such as profit, expenses, including administration, claims, operational and marketing, tax, investment return, and cost of capital (CoC).
- Other considerations which may include competition, cross-subsidies, options, guarantees and discounts, unique product features, regulation, and market trends.
Considerations when adjusting base values of BCP
In what was are these base values not appropriate for new premium rates?
STIR CURSE
Seasonality: consider when working with data from different years
Trends: more recent experience must be heavily weighted, once-off or ongoing?
Incomplete claims: make provision for outstanding claims
Risk changes: can be difficult to deal with
Cover changes: tighter uw or new benefit
Unusual: too high/light experience, large or exception
Reinsurance: reinsurance premium reviews/reduction in retention limits.
Supplier Agreements: lower tarrifs with hospital groups
External influences: war or natural disasters.
How can risk be allows for in cashflow model?
- apply margins to all assumptions + risk-free discount rate
- use stochastic model to understand how assumptions vary, help to determine size of margins + where margins need to be included
- assume higher risk discount rate + best estimate assumptions
What can cause errors or distortions in data?
- Policy acceptance. This is the basis on which proposals are accepted, underwritten, or have waiting periods applied.
- Policy coverage. These are the risks covered under the contracts in question relative to the period ahead.
- Marketing and method of distribution. This involves the influence of the selling process on the nature of risks insured or policyholders covered.
- Delays in claims settlement. These relate to the internal practices that may affect the timing of claims settlements.
Individual vs. group-level rating factors
Individual-level rating factors. These are rating factors that apply to the individuals of the group. For example, the individual-level rating factors for a CI policy might be age, gender, smoker status, and occupation.
Group-level rating factors may also be applied. These are rating factors that apply to the group itself, for example, industry and location, size of group, employer’s attitude to their employees’ health, etc.
Considerations when pricing flexible benefits
- employee could select range of alternative benefits from death benefit, to buying more leave out of salary
- need to price so that risk PH poses is in line with premium charged
- avoids insurer from being exposed to adverse selection
- limits will be put in place and statements of good health requested.
Steps of pricing a group policy
- calculate book rate: take entire book and calculate equivalent BCP for entire book - or use a table if have no idea.
- if historical claims data exists, split into risk cells (makes it different from book rate), use this to calculate BCP
- adjust historical data for future relevance: trends, inflation, membership changes
- important to consider the group’s demographics: location, work practices, coverage needs, occupation types, and economic sector to understand the overall risk profile.
- credibility factor depends on the available years of data
- calculate: expense loadings (lower than individual policies due to economies of scale), profit loadings, tax loadings, solvency capital loadings
- consider implementing NCD or LCD
- calculate the final premium by combining the adjusted book rate, group risk adjustments, expense loadings, profit margin, and any applicable discounts.
What are the disadvantages of the formula approach?
- doesn’t allow for timing of events
- doesn’t allow for accumulation of reserves
- doesn’t allow for effect of net negative cashflows
- doesn’t allow for separation of claims-related and premium-related cashflows
- doesn’t allow for variation of assumptions over time
- doesn’t model product features well e.g. guarantees or options
- doesn’t allow for capital needs
Data checks
- member recon: check that old members + new members - exit members = number of members on the books
- new members exist: check new employees included in retirement fund (payroll vs. fund data)
- average comparison: check average salary is consistent with last year or average payout
- salary related contributions vs. benefit levels: if CR is 5% and salaries are R100, ensure that contributions are R5.
- min and max: is age between 18 and 65, ensure there are no 10 year olds on the books.
North-American vs. conventional option pricing
- premium when option is exercised: based on select mortality/morbidity assumptions
- the cost of the option of those who take up: based on heavier than ultimate XP vs. based on ultimate XP
- the take up rates: only proportion of option-takers vs. 100% take up rates
- date: lots of data needed to calculate appropriate take up rates vs. not
- assumptions: lots more assumptions (impact results) vs. not
- competitive: can be a lot more competitive if data is correct vs. not
What are the different ways to review contributions/premiums?
- Monitoring the assumptions used for pricing new business
- might lead to changes in premium rates insurer charges
- may affect marketability and costs the insurer to process.
- incorporating past experience into future estimates is NB (esp. if past different to expected) - Monitoring the assumptions used for pricing reviewable premium business - incorporating past experience into future estimates is NB (esp. if past different to expected)
- Monitoring whether the reserves set up to cover losses from loss leaders are adequate
- able to undercharge for certain premiums provided regulation doesn’t enforce minimum premiums/contributions
- capital to fund reserves might come from SH or retained profits.
- better to sell more profitable business vs. undercharging premiums
How to determine assumption?
- Collect data
- Group data
- Calculate rates
- Adjust rates
- Final assumption
