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CAS Seminar on Ratemaking

CAS Seminar on Ratemaking. Basic Techniques for an Overall Indication (INT-1) March 13, 2006 Salt Lake City, Utah Presented by: Brian Donlan, FCAS, MAAA & Gavin Lienemann, FCAS, MAAA. Basic Techniques Overall Rate Level Indication (INT-1).

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CAS Seminar on Ratemaking

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  1. CAS Seminar on Ratemaking Basic Techniques for an Overall Indication (INT-1) March 13, 2006 Salt Lake City, Utah Presented by: Brian Donlan, FCAS, MAAA & Gavin Lienemann, FCAS, MAAA

  2. Basic TechniquesOverall Rate Level Indication (INT-1) Basic Ratemaking Equation and Its Considerations: • Organization of Data • Premium Adjustments • Loss Adjustments • Expense Considerations • Other Considerations

  3. ORGANIZATION OF DATA I. CALENDAR YEAR DATA (standard accounting year) II. POLICY YEAR DATA III. ACCIDENT YEAR DATA

  4. ORGANIZATION OF DATA I. CALENDAR YEAR DATA Premium and Loss transactions that occur during the year. Loss = Payments + change in reserves duringyear • Matches financial statements • Data available quickly, least time lag in development • Never changes after it is calculated at the end of a year. • Premium and Loss transactions DO NOT match • Reserve changes from prior years can distort the reliability of the data for ratemaking and management purposes.

  5. ORGANIZATION OF DATA II. POLICY YEAR DATA Premium and Loss transactions on policies with effective dates (new or renewal) during the year. Loss = Payments + Reserves • Premium and Loss transactions DO match • Transactions from policies effective in prior years do not distort the data for ratemaking • Data with the greatest time lag (not available until one term after end of the year.) • Exact ultimate losses cannot be finalized until all losses settled.

  6. ORGANIZATION OF DATA III. ACCIDENT YEAR DATA Loss transactions for accidents occurring during the year. Premium transaction during the same 12 months. Loss = Payments + Reserves • Premium and Loss transactions generally match • Transactions from accidents occurring in prior years do not distort the data for ratemaking • Data with slight time lag • Exact ultimate losses cannot be finalized until all losses settled.

  7. Basic Ratemaking Equation: Future Premiums = Future Losses + Future Expenses + Underwriting Profit and Contingency Provision

  8. BASIC RATEMAKING METHODS • Loss Ratio Method • develops indicated rate change (A) • A = Experience LR / Target LR • Pure Premium (PP) Method • PP = Loss / Exposure Units • develops indicated rate per unit of exposure (R) • R = [PP + FE] / [1-VER-Profit Ratio] NOTE: THE TWO METHODS PRODUCE IDENTICAL RESULTS WHEN IDENTICAL DATA AND ASSUMPTIONS ARE USED.

  9. LOSSRATIOMETHODOLOGYFixed Expense Approach INDICATED (needed) RATE LEVEL CHANGE = Projected Experience Loss + Fixed Expense Ratio Expected (Target) Loss + Fixed Expense Ratio - 1.0 For Example: 90.3% 76.6% - 1.0 = + 17.9%

  10. LOSSRATIOMETHODOLOGYExperience Loss + Fixed Expense Ratio Projection • Premium Adjustments • Adjust to Current Rate Level • Premium Trend • Loss Adjustments • Loss Development • Loss Trend • Catastrophe Adjustments

  11. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . • (7) Annual Loss Trend ___% Trend Period: • (8) Exponential Trend Factor [1.0 + (7)] ** Trend Period. . . . . . . . . . . . • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8). . . . . . . . . . . • Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0. . . . . . . . . . . . . . .

  12. Sample Rate Level IndicationAssumptions • Annual Policies. Rates to be revised as of JANUARY 1, 2007 • Loss Ratio Methodology • EXPERIENCE PERIOD: ACCIDENT YEAR 2005 • 2005 Earned Premium $3,690,000 • Reported Incurred Losses as of 12/31/05: $1,900,000

  13. PREMIUM ADJUSTMENTS Current Rate Level Adjustment • Loss Ratio Method analyzes the appropriateness of the CURRENT RATES for use in the future. • CRL adjustment reflects rate changes NOT already included in historical recorded premium.

  14. PREMIUM ADJUSTMENTS Current Rate Level Adjustment - Common Techniques • Extension of Exposures • Re-rate each exposure (policy) • Requires extensive detail and mechanization • Most accurate method • Parallelogram Method • Easier method • Specific policy information not required • Assumes even distribution of policies written throughout the year

  15. CURRENT RATE LEVEL ADJUSTMENTExtension of Exposures Method 2005 Earned Exposures Class 1 Class2 Territory 1 1,500 2,260 Territory 2 1,995 3,010 Territory 3 2,700 2,500 Current Rates Class 1 Class 2 Territory 1 $150 $300 Territory 2 $175 $350 Territory 3 $220 $440 Premium @ Current Rates Class 1 Class 2 Territory 1 $225,000 $678,000 Territory 2 $349,125 $1,053,500 Territory 3 $594,000 $1,100,000 Statewide total$3,999,625

  16. CURRENT RATE LEVEL ADJUSTMENT Parallelogram Method A B 1/04 1/05 1/06 1/07 1/08 Rate Change History DateChangeRate Index From 1/1/04 to 6/30/05 None 1.000 A 7/1/05 + 12% 1.12 B (1 * 1.12)

  17. CURRENT RATE LEVEL ADJUSTMENT Calculation of On-Level Factor - Parallelogram Method I. Rate Index for 2005: Percent Rate Areaof 2005Index A 87.5 1.000 B 12.5 1.120 TOTAL 100.0 1.015 II. On-Level Factor for 2005: (1) Current Index 1.120 (2) 2005 Index 1.015 (3) On-Level Factor (1) / (2) 1.103 (4) 2005 Earned Premium $3,690,000 (5) 2005 Earned Premium @ Current Rate Level$4,070,070

  18. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . • (7) Annual Loss Trend ___% Trend Period: • (8) Exponential Trend Factor [1.0 + (7)] ** Trend Period. . . . . . . . . . . . • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8). . . . . . . . . . . • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0 . . . . . . . . . . . . . . .

  19. PREMIUM ADJUSTMENTS Premium Trend • To project the premium level which will exist during the period being priced. The premium trend accounts for shifts of business that will also impact the losses. • Must adjust for items such as: • Average car model year or price group • Average home value • Territorial distribution shift • Any item that would impact future premium or both premium and losses in the future except policy count

  20. PREMIUM ADJUSTMENTS Premium Trend • AUTO EXAMPLE - MODEL YEAR RATING Over time, the average model year and symbol will “drift” toward newer more expensive vehicles. • HOMEOWNERS EXAMPLE - EXPOSURE TREND The exposure unit used in Homeowners is the amount of insurance which is tied to the value of the home. Both of these situations will cause average premium in the projection period to be higher than in the experience period, regardless of any rate activity.

  21. Premium AdjustmentsPremium Trend – Determination of Trend Period • Annual Policies. Rates to be revised as of JANUARY 1, 2007 • EXPERIENCE PERIOD: ACCIDENT YEAR 2005 2005 2006 2007 2008 Experience Policies Period Effective <COVERAGE PROVIDED> Avg. Earned Avg. Earned Date under Date is 7/1/05 Revised Rates is 1/1/2008 TREND PERIOD is 2.50 Years

  22. PREMIUM ADJUSTMENTS Premium Trend Example Annual Trend = 2.0% Total Trend Factor = 1.02 ^ 2.5 = 1.051

  23. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.051 • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . 4,278 • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . • (7) Annual Loss Trend ___% Trend Period: 2.5 years • (8) Exponential Trend Factor [1.0 + (7)] ** 2.5. . . . . . . . . . . . . . . . . . . . • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8). . . . . . . . . . . • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0 . . . . . . . . . . . . . . .

  24. LOSSRATIOMETHODOLOGYExperience Loss + Fixed Expense Ratio Projection Loss Adjustments • Loss Development • Loss Adjustment Expenses • Allocated Loss Adjustment Expense (ALAE) • Generally included with loss • Unallocated Loss Adjustment Expense (ULAE) • Generally loaded to Loss & ALAE • Loss Trend • Catastrophe Adjustments

  25. LOSS ADJUSTMENTS Loss Development Analysis • Adjust historical losses to an expected ULTIMATE value • Reflects revisions to claim values as claims are settled • Used with policy and accident year data • Reflects IBNR reporting. • Reflects development on reported claims. • Key Factors for Consideration • Observation of historical patterns • Incurred and Paid developments • Development period

  26. Accident Year Loss Development Analysis INCURRED METHOD - Recognizes SYSTEMATIC inaccuracy of case reserves INCURRED LOSSES & ALAE Adjusted for Deductibles and Cats, (000’s) ACCIDENT Reported as of: YEAR 12 mos24 mos36 mos48 mos 2000 1,200 1,488 1,548 1,548 2001 1,300 1,755 1,843 1,843 2002 1,400 1,708 1,691 1,691 2003 1,5001,800 1,836 2004 1,600 1,968 2005 1,900 Age to Age Development Factor = Incurred Loss @ Later Report Period divided by Loss @ Prior Report Period AY 2003 12 mos TO 24 mos Factor =$1,800 / $1,500 = 1.20

  27. Accident Year Loss Development Analysis INCURRED AGE-TO-AGE FACTORS ACCIDENT YEAR12-24 mos24-36 mos36-48 mos 2000 1.24 1.04 1.00 2001 1.35 1.05 1.00 2002 1.22 0.99 1.00 20031.20 1.02 2004 1.23 Average 1.248 1.025 1.000 Selected 1.248 1.025 1.000 x x Cumulative Age-to-Age Factors 1.279 1.025 1.000

  28. LOSS DEVELOPMENT ANALYSIS (1) (2) (3) Cumulative Estimated Accident Incurred Loss Age to Ultimate Ultimate Loss Year& ALAE @ 12/05Factor(1) * (2) 2002 1,691 1.000 1,691 2003 1,836 1.000 1,836 2004 1,968 1.025 2,017 2005 1,9001.279 2,430

  29. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.051 • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . 4,278 • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . 2,430 • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . • (7) Annual Loss Trend ___% Trend Period: 2.5 years • (8) Exponential Trend Factor [1.0 + (7)] ** 2.5. . . . . . . . . . . . . . . . . . . . • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8). . . . . . . . . . . • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0 . . . . . . . . . . . . . . .

  30. EXPENSE ANALYSIS Unallocated Loss Adjustment Expense Countrywide Figures (in $ millions) Unallocated Loss ULAEto IncurredAdjustmentLosses & ALAE YearLosses & ALAEExpensesRatio 2003 $61,200 $6,500 10.6% 2004 79,000 7,800 9.9% 2005 82,300 8,300 10.1% Estimated Future ULAE Percentage 10.0% as a percentage of Incurred Losses & ALAE

  31. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.051 • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . 4,278 • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . 2,430 • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . 1.10 • (7) Annual Loss Trend ___% Trend Period: 2.5 years • (8) Exponential Trend Factor [1.0 + (7)] ** 2.5. . . . . . . . . . . . . . . . . . . . • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8). . . . . . . . . . . • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0. . . . . . . . . . . . . . .

  32. LOSS ADJUSTMENTS Loss Trend Analysis • Projectto the loss level predicted to exist during pricing period • Data Issues • Separate Claim frequency and Severity Trends? • Internal Vs. External Data ? • Paid, Incurred, Reported data ? • Calendar Vs. Accident year ? • Length of Historical period ? • Credibility ? • Extrapolations of Historical Data? (Least Squares Regression, Time Series, Econometric Models)

  33. LOSS TREND ANALYSIS Calendar Paid Losses Earned Exposures Pure Year($ 000’s)(000’s)Premium 1998 1,212 13.0 $ 93.23 1999 1,356 13.2 $102.73 2000 1,496 13.3 $112.48 2001 1,726 13.4 $128.81 2002 1,730 13.6 $127.21 2003 1,839 13.7 $134.23 2004 1,984 13.8 $143.75 2005 2,108 14.0 $150.57 Annual Trend based on Least Squares (exponential ) 6.6% Most Recent Annual Change (150.57 / 143.75) 4.7% Other Possible Trend Sources C.P.I. Medical Care Index 3 - 4% C.P.I. Auto Body Work Index 4 - 5% C.P.I. Home Maintenance & Repair Index 3 - 4%

  34. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.051 • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . 4,278 • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . 2,430 • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . 1.10 • (7) Annual Loss Trend _5.0__% Trend Period: 2.5 years • (8) Exponential Trend Factor [1.0 + (7)] ** 2.5. . . . . . . . . . . . . . . . . . . . 1.13 • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8) . . . . . . . . . . . . 3,020 • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0. . . . . . . . . . . . . . .

  35. LOSS ADJUSTMENTS CATASTROPHES • Catastrophes should be eliminated from losses • Average provision should be used as a loss loading • Example: • Expected Annual Catastrophe Loss & ALAE • for Projection Period 394 • (2) Projected Premium 4,278 • (3) Catastrophe Load (1) / (2) 9.21%

  36. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.051 • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . 4,278 • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . 2,430 • Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . 1.10 • Annual Loss Trend _5.0__% Trend Period: 2.5 years • (8) Exponential Trend Factor [1.0 + (7)] ** 2.5. . . . . . . . . . . . . . . . . . . . 1.13 • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8). . . . . . . . . . . . 3,020 • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . 394 • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . . C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0. . . . . . . . . . . . . . .

  37. UNDERWRITING EXPENSES • Commissions and premium taxes vary directly with premiums • Other acquisition and general expenses are “fixed” • Not really fixed • Vary with inflation

  38. EXPENSE ANALYSIS Direct Expenses Other Than Loss Adjustment Countrywide Figures (In $ Millions) 2003 2004 2005 Selected $ % $ % $ % % Written Premium 107,400 100 121,600 100 142,400 100 Commissions 16,647 15.5 19,200 15.5 22,100 15.5 15.5 Other Acquisition 6,229 5.8 4,700 5.8 5,300 5.8 5.8 Administrative 6,874 6.4 6,200 6.4 8,200 6.4 6.4 Taxes, Licenses &Fees 3,652 3.4 4,100 3.4 4,900 3.4 3.4

  39. DEVELOPMENT of EXPECTED LOSS RATIO & FIXED EXPENSE RATIO TotalVariableFixed Commissions 15.5%15.5% 0.0% Other Acquisition 5.8 0.0 5.8 General 6.4 0.0 6.4 Taxes, Licenses & Fees 3.43.4 0.0 Profit & Contingency 4.04.0 0.0 Other Costs * 0.50.5 0.0 TOTAL 35.6%23.4%12.2% TARGET Loss, LAE & Fixed Expense Ratio = 100.0% - 23.4% = 76.6% * Policyholder Dividends, Involuntary Market Costs, Guaranty Fund Assessments, Etc. (if allowable)

  40. RATE INDICATION WORKSHEET Loss Ratio Methodology - Fixed Expense Approach • EXPERIENCE Loss + Fixed Expense Ratio = (9 + 10+ 12) / (4).. . . . . . • (1) 2005 Earned Premium . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3,690 • (2) Current Rate Level Factor. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.103 • (3) Premium Trend Factor . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1.051 • (4) Trended Premium @ Current Rate Level = (1)*(2)*(3).. . . . . . . . . 4,278 • (5) Accident Year 2005 Ultimate Losses & ALAE . . . . . . . . . . . . . . . . . . 2,430 • (6) Unallocated Loss Adjustment Expense (ULAE) Factor. . . . . . . . . . . 1.10 • (7) Annual Loss Trend _5.0__% Trend Period: 2.5 years • (8) Exponential Trend Factor [1.0 + (7)] ** 2.5. . . . . . . . . . . . . . . . . . . . 1.13 • (9) Trended Ultimate Losses and LAE = (5) * (6) * (8) . . . . . . . . . . . . 3,020 • (10) Expected Catastrophe Loss & LAE for Projection Period. . . . . . . . . 394 • (11) Fixed Expense Ratio (FER). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12.2% • (12) Fixed Expenses = (1) * (11). . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 450 90.3% B. EXPECTED (Target) Loss + Fixed Expense Ratio. . . . . . . . . . . . . . . . . . . . .76.6% C. INDICATED RATE LEVEL CHANGE = (A / B) - 1.0. . . . . . . . . . . . . . . +17.9%

  41. OTHER CONSIDERATIONS • CREDIBILITY • DEDUCTIBLES • TYPES (Straight, Franchise, Percentage) • Must consider deductibles offered • Will the offerings change; will the mix of change • Deductible relativities based on Loss Elimination Ratios • LIMITS • Basic limits data used for auto indication; Increased limits reviewed separately • Basic limits review emphasizes frequency of loss, not severity

  42. BASIC RATEMAKING TECHNIQUES Suggested Readings Foundations in Casualty Actuarial Science, Ratemaking by Charles L. McClenahan, Chapter 2, pages 25-90. Statement of Principles Regarding Property and Casualty Insurance Ratemaking, CAS Committee on Ratemaking (1988). Insurance Operations, Webb, Harrison and Markham, CPCU Text, Chapters 10 and 11. Introduction to Ratemaking and Loss Reserving for Property and Casualty Insurance, by Robert L. Brown, Chapter 3 - Ratemaking Trend and Loss Development Factors, by Charles F. Cook, 1970 Proceedings of the Casualty Actuarial Society

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