s1 - nonlife v04_prodcut pricing & other actuarial aspects
TRANSCRIPT
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 1/37
1
Product Pricing and Other
Actuarial Aspectsby
S. P. Chakraborty
&P. K Maiti
IRDA
Seminar on General Insurance, 30th October, 2009, Mumbai
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 2/37
2
Agenda:
Basic Principles of non-life product pricing
Product Pricing ±Basic Elements
Illustration on application of rate relativities Practical considerations in product pricing
File & Use application ± Basic requirements of the regulator
File & Use Application ± Information onactuarial importance
File & Use Application ± A case study
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 3/37
3
Basic Principles of non-life product
pricing
Should be an estimate of the expected value of future costs.
Should provide all costs associated with thetransfer of risk.
Should maintain proper balance at both theindividual and aggregate level.
R esulting rates should not be excessive,inadequate or unfairly discriminatory for
any individual exposure.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 4/37
4
Basic Elements Contd..
Exposure:
Indication of the amount of risk
Reasonableness
Ease of determination
Responsiveness to change
R isk Factors
Subjective, hence may not be easilymeasurable
Bearing on risk
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 5/37
5
Basic Elements Contd..
R ating Factors:
Proxies of risk factors
Objective
Identifiable
Verifiable
Inexpensive to administer
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 6/37
6
Basic Elements Contd..
Typical Rating variables:
Personal Automobile: Driver age andgender, model year and accident year
Home owners: Amount of insurance, Ageof Home and construction type
Workers compensation: Occupationclass code
Commercial Automobile: Driver Class,Territory, Limit of Liability.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 7/37
7
Basic Elements Contd..
R ating R elativities:
Better reflection of underlying risk
Minimizes cross subsidy & anti selection.
Need analysis of past claims and pastexposures
Completeness, accuracy and overall
quality of data Statistical and analytical techniques are
used
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 8/37
8
Basic Elements Contd..
Exposure rating:
Premium is based on risk characteristics of
the insured Identification of risk characteristics
Establishment of relationships of premiumwith risk characteristics ± rating relativities
Significant correlation between the ratingfactors and cover provided
Period of application rates
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 9/37
9
Basic Elements Contd..
Experience R ating:
Loss history of an individual risk is used toset the premium
Prospective or Retrospective
Requires adjustments to the materialchanges to the risk being insured or to the
T & C of the cover. Credibility of data
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 10/37
10
Basic Elements Contd..Pure R isk Premium (PR P) covers the expected claim amounts estimated from past claims and exposure data for new products, external data sourced from reinsurers and industry data
and other sources depending on the applicability.
PR P = Expected Claim Frequency per policy X Expected Cost per claim
AEPP
Burning Cost Premium (BCP) = Total Claims / Total Exposure to risk(or)
Average Claim amount x Claims Incident rate
Future R isk Premium = BCP projected forward after adjustingfor past inflation, trends,
relevance, changes in coverage of new policy,reinsurance and future inflation.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 11/37
11
Basic Elements Contd..
PRP is loaded for expenses , commission , contingency ,profit margin and cost of reinsurance , if any.
GP (Gross Premium) = [ CF x (CA + CE) + FE + VE] /
(1-C-v-p)- CF: E(Claim Frequency)
- CA: E (Average Claim Amount)
- FE & VE: Fixed and variable expenses per policy.
- CE: Claim Expenses
- p:Profit and contingency loading- v: Variable expenses other than commission as a% of GP.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 12/37
12
Basic Elements Contd..
Importance of data in rate making
Sources of data ±
- Internal ± Risk and accounting data
- External data ± Aggregate marketstatistics, competitors¶ data, reinsurersdata, other sources.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 13/37
13
An Illustration on application of Rate
Relativities
A complete documentation is needed whenapplying rate relativities to price individualrisks. It should have the following
components:- Rules of rating
- Base Rates and Rating Tables
- Rating algorithm.- Underwriting guidelines
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 14/37
14
An Illustration of application of rate
relativities Contd«
Homeowners rate computation:
Base rate: Rs.900
Variables: Amount of insurance,Territory, Protection class and constructiontype, Underwriting tier, Deductibles,Miscellaneous Credit, additional optional
coverage etc.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 15/37
15
An Illustration of application of rate
relativities Contd«
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 16/37
16
Practical issues in pricing
Recognition of complexities associatedwith
- Competitive Insurance market
- Company¶s internal operations
- Range of exposures and riskenvironment insured
- Complex social, economic, legal,Regulatory and operational forces.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 17/37
17
File & Use application ² Basic
requirements of the Regulator
Product design and pricing should be on soundand prudent actuarial and underwriting basis.
Products should have real risk transfer and no
financial guarantee. Protection of policyholders¶ interest should be
observed.
Product pricing should be supported byappropriate data and involves actuarial judgment.
Actuarial assumptions should be consistent withthe insurer¶s experience.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 18/37
18
File & Use application ² Basic requirements
of the Regulator
Documents required:
- As per Para 25 of File & Use Guideline following documentsare required:
- Particulars of product: Form A- Certificate by CEO: Form B
- Certificate by AA: Form C
- Certificate by Company Lawyer: Form D.
- Proposal form, Policy forms and standard endorsements.
- Copy of prospectus or sales literature.- Copy of the UW manual
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 19/37
19
File & Use application ² Other issues of
Actuarial Importance.
- Claims procedure
- Consistency between underwriting policyand product design, rating, terms &
conditions.
- AA should attend the board meeting
- Financial viability of each product.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 20/37
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 21/37
21
Information of actuarial importance (contd.)
Exclusions/Restrictions, if any
Declined Risks
Deductibles/co payments/coinsurance
Policy Renewal, Cancellation, treatment of UnpaidPremiums.
Treatment of Change in Risk.
Intermediaries¶ Commission and Brokerage
Reserving methodology for long term product.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 22/37
22
Further issues in pricing & Reserving
Details of the Methodology used to calculate rates Proper justification with regard to adequacy of data and
hence impact on rating. Rating Algorithm Rating factors and other factors used for rating Any underwriting adjustment in rating Details of expense assumptions & inflation rate Cancellation provision Past and prospective loss experience. Insurers are expected to carry out experience
analysis on regular basis (as per periodicity of reviewin form C).
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 23/37
23
Further Issues (Contd.)
Grouping of Risks
Catastrophic risk
Margin for profit and contingencies.
Taxation
Cost of Capital and solvency margin
Reinsurance
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 24/37
24
File & Use application ² Financial Projections
Require to provide a projection of volume of business in thenext five years.
Channel wise projection is required. Initial strain due to NB. Profit Criteria to be specified (Profit Margin, IRR, DPP,
whichever is applicable) Detail cash flow is required for various model points to be
constructed by considering relevant variables. Necessary for both short term (One year) and longer term
products. Identify the most sensitive Parameters.
Accordingly construct Three Scenarios ± Base, Optimisticand Pessimistic.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 25/37
25
Contd.
Accordingly compute the profit criteria as set by thecompany
Tabulate the results against each model points in respectof each of the scenarios
Repeat the procedure with add on benefits
(endorsement). In respect of one year term contract, additional
projection is required for the next 5 years by estimatingthe persistency rates for each year.
Sensitivity tests are to be performed by varying(adversely) each base assumptions at a time and
tabulating the results to demonstrate the effect of eachparameter
One sample cash flows for specific model points arerequired to be submitted.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 26/37
26
A case study on a 3 year term
health insurance product
Product Features:
Three year term regular premium healthinsurance product
Individual and family floater basis
Indemnity basis subject to an annual limit
Benefit structure:
Accidental death of any member
Medical expenses: Hospitalization for a minimum
of 24 hours, hospitalization of less than 24 hoursand pre and post medical expenses for the firsttwo cases.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 27/37
27
A case study (Contd.)
Actuarial issues:
Treatment of unutilized annual limit
Policyholders¶ option
Waiting period for specified diseases/preexistingconditions
Existence of any co pay
Exclusions
Review-ability of premium rates at the end of theterm.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 28/37
28
A case study (Contd.)
Actuarial issues:
Any territorial discrimination
Treatment of subsequent change in risk ±occupation change
Grace period (for long term product).
Scale of commission and distribution
channel
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 29/37
29
A case study (Contd.)
Pricing Assumptions:
R ates of Mortality ± 90% of the IALM (94-96)Ultimate (for decrement)
R ates of Morbidity: Should not be just basedon reinsurance rates. Proper justification isrequired. May derive the expected claim costfrom the reinsurers rates by eliminating theexpenses components coupled with inflation. Anyage adjustment and smoothing exercise is to be
disclosed.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 30/37
30
A case study (Contd.)
R ate of policy termination: Preferably inrespect of each mode of premium payment. Forexample, 30%, 15% and 5%
R ate of interest: 7% p.a.
Surrender scales: To be specified
Commission Scales: Specific Commission ratesfor each intermediary.
Expenses: First Year and Renewal both by
Premium related and Per policy basis and claimexpenses.
Taxation: Rate to be specified. Average SumInsured: Rs.250000 /-
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 31/37
31
A case study (Contd.)
Pricing Methodology: Cash Flowapproach. Details of sample cash flow andPricing formula is required for premium,
Gross and net profit. Mix of business, if any assumed in the projection should bedisclosed.
Profit Criteria: Profit Margin calculated at
RDR of 15% p.a.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 32/37
32
A case study (Contd.)
R eserving: Expected that the insurerscalculate both by URR and UPR ( based onday) method and take the higher of these
two. R eserving assumptions: Any
contingency margin applied to pricingassumptions.
Business volume projection and initialstrain over the next five years
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 33/37
33
A case study (Contd.)
Model Points and Scenario/Sensitivityanalysis:
R ating Variables: Age and Annual Limit
Parameters: Investment return,Expenses and claim amount
Scenarios ± Base, Pessimistic and
Optimistic
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 34/37
34
A case study (Contd.)
Profit Margin in each of the model pointsand scenarios to be tabulated.
Sensitivity of the results to each
parameter to be quantified.
Effect of withdrawal to be measuredseparately.
Negative profit margins are to be analyzedwith special care and to be eliminated.
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 35/37
35
A case study (Contd.)
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 36/37
36
A case study (Contd.)
8/9/2019 S1 - Nonlife V04_Prodcut Pricing & Other Actuarial Aspects
http://slidepdf.com/reader/full/s1-nonlife-v04prodcut-pricing-other-actuarial-aspects 37/37
37
Thank You