Chapter 20: Further Considerations When Rating (F203 Appx. 7) Flashcards
9 Requirements of good rating factors
- Define the risk clearly
- Uncorrelated with other rating factors
- Practical
- Objective
- Verifiable
- Non-manipulable
- Acceptable to the policyholder
- Acceptable to the market
- Are allowed by the regulator
Requirements of a rating factors:
Define the risk clearly
In quantitative terms, the rating factor should be correlated with expected claims.
Requirements of a rating factors:
Uncorrelated with other rating factors
The rating factor should not correlate too closely with other rating factors.
This ensures that they add value to the underwriting process.
We should choose each additional rating factor to remove as much of the residual heterogeneity as possible.
Requirements of a rating factors:
Practical
They should be practical to obtain and record.
Requirements of a rating factors:
Objective
This avoids disputes between the insurer and policyholder over the truth of the information provided.
Requirements of a rating factors:
Verifiable
Rating factors should be verifiable and preferably factual. This helps to prevent fraudulent behaviour.
Requirements of a rating factors:
Acceptable to the policyholder.
Otherwise, the insurer may lose potential customers or renewals.
E.g. requiring genetic test results to be disclosed might be unacceptable.
Why might the premium actually charged differ from the office premium? (6)
- to meet business objectives
- to maintain market share in highly competitive markets or in certain market conditions (such as the “soft phase of the insurance cycle)
- if it is difficult to establish the technical premium
- if insurers can charge certain loyal customers more (inertia pricing)
- if the market does not accept different premiums
- where no-claims discounts apply
Why might it be difficult to establish the technical price?
In some classes, experience is extremely volatile and significant judgement is required in pricing the business.
In these classes, it is more likely for the price to be market supply and demand driven rather than precisely reflecting the underlying risks.
9 “other factors” that might influence a policyholder
- the level of service
- the policy conditions
- the reputation of the company
- the ability to pay out claims
- the reluctance to pay out claims
- any loyalty discounts
- any advertising campaign
- inertia
- payment method
What is the “soft phase” of the insurance cycle?
The “soft phase” of the insurance cycle is the stage when there is more competition in the market, and so premium rates are generally low and therefore less profitable.
6 other practical considerations affecting premium rates
- capital availability
- reinsurance capacity
- sales and quotes systems
- regulations
- relationships with sellers
- the method of sale.
Experience rating
Where the premium a policyholder pays depends on their individual claims experience.
It can be applied prospectively or retrospectively, using claim numbers or claim amounts.
Explain what is meant by a retrospective system of experience rating.
Policyholders end up paying a premium for cover over a given period that depends somehow on the claims they make during that same period.
They usually get a partial rebate or pay an extra premium at the end of the period, once everyone knows what claims, if any, they actually made.
Prospective rating
The premium at the renewal date depends on the experience of the risk prior to that renewal.
The insurer takes on all the underwriting risk in such an arrangement because the policyholder pays a premium for the upcoming risk period and the premium for that period cannot be increased if claims experience is poor.
The premium can only be increased for the next risk period.
