Clark - reinsurance1 Flashcards
one major difference between primary insurance and reinsurance
reinsurance is generally customized to each individual buyer
2 main methods by which reinsurance can be applied
- facultative reinsurance – designed and purchased separately for each individual risk of ceding company
- treaty reinsurance – allows a reinsurer to cover multiple risks of ceding company; priced based on risks in aggregate
2 main types of treaty reinsurance & subtypes
-
proportional – assumes given % of losses and premium
- quota share - % ceded is same across all risks
- surplus share - % ceded varies by risk -
non-proportional – assumes losses in excess of ceding company’s retention limits (XL reinsurance)
- Per risk XL – assumes losses between a retention and limit for each risk; offers protection against large individual claims
- Per occurrence XL – assumes losses between retention and limit for each occurrence across multiple risks; offers protection against CATs
- Aggregate XL – assumes losses between retention and limit for aggregate total of losses for given time period; offers frequency protection
policies can be provided upon 1 of several bases
- risks attaching – all policies that begin or renew during contract period are covered regardless of when losses occur or are reported; think of losses typically on PY basis and relate them to WP
- losses occurring – all claims that occur during contract period are covered regardless of when policies were incepted or losses are reported; think of losses typically on AY basis and relate them to EP
2 methods to price reinsurance policies
-
experience rating – use adjusted historical experience of either the reinsurance contract or ceding company to calculate premium for prospective reinsurance contract
- primary approach used to price proportional reinsurance -
exposure rating – use current risk profile and estimated loss distributions to calculate premium for prospective reinsurance contract
- often used in combination with experience rating to price non-proportional
exposure rating - determining expected losses in layer
- loss distributions are used to determine expected losses in treaty layer
- can be based on ILFs, ELF for WC, or exposure curves
reinsurer will also pay a ceding commission to
ceding company to reflect that ceding company will have much larger UW expenses
why buy surplus share
if want to retain low risk policies and cede higher risk policies
- for any risks with insured value below retained line, ceding company keeps risks in full
- for risks with insured values above retained line, reinsurer will assume a % of loss, alae, and premium on those risks
sliding scale commission
commission paid by reinsurer to ceding company varies with actual LR on treaty, subject to max and min commission
in balanced sliding scale plan
commission at expected LR = expected commission
-not always the case, so it is best to calculate expected commission as probability weighted average of commission at each LR
sliding scale commissions may also have
carryforward provision
-this means if actual LR exceeds LR for min commission, then amount of LR in excess of LR for min commission is added to LR in subsequent year for purposes of determining next year’s commission
there are 2 approaches to pricing carryforward provisions
- assume that any past carryforward amounts only apply to current year’s LR
- can assume this by subtracting carried over LR amount from LRs in current year’s sliding scale
- problem with this approach is that it ignores potential for future carryforward - look at expected ultimate commission ratio for block of years together
- problem with this is that it isn’t obvious how to reduce variance of aggregate loss distribution when you combine the years and it ignores that contract might not renewed
Profit Commission
- returns some of reinsurer’s profit to ceding company as additional commission
- similar to sliding scale commission that is based on actual LR and increases commission with low loss result
loss corridors
-allow ceding company to reassume some liability if LR exceeds certain amount
propert per risk XOL - treaty premium
treaty premium is set as % of ceding company’s subject premium base which will either be:
Gross net EP income for policies on loss occurring basis
Gross net WP income for policies on risks attaching basis
- net refers to net of any other inuring reinsurance (reinsurance that applies before this treaty)
- gross refers to property per risk XL treaty being priced
exposure rating is done by
using exposure curves
-exposure curve P(p) = portion of loss capped at given percent p of insured value relative to total value of loss
usually exposure curves are constructed separately for
different risk sizes and all risks of given size are assumed to be homogeneous
- but you may only have 1 exposure curve to use for different risk sizes -> implies probability of 10k loss on 100k risks is same as probability of 100k loss on 1M risk
- assumption may not be realistic in practice particularly for commercial insurance
Free Cover
- one issue that arises in using experience rating for excess of loss treaties is when there is no loss experience in highest portion of layer
- experience rating would give away any excess coverage for which there is no loss experience -> concept is called free cover
- one way to deal with this is to use experience rating for lower portion of layer and then use exposure rating relativities to price higher portion of layer
Credibility for Experience Rating
- 2 measures of credibility to use for experience rating property per risk XL treaties
1. expected number of claims or expected dollars of loss during historical period; use expected claims since actual claims would assign more credibility to worse than average years
2. use variance of historical projected loss costs; more stable LRs, more credibility that should be assigned to experience
Describe two ways the insurer can stabilize its results for its sliding scale commission structure over time
- Introduce a carryforward provision in which the portion of the loss ratio in excess of the loss ratio corresponding to the minimum commission will be added to the following year’s loss ratio for the purpose of determining the sliding scale commission.
- A profit sharing provision would incentivize the insurer to manage losses before thepotential return in premiums.
- Reduce the range of possible commissions so they will be more certain. • Reduce the range of loss ratios leading to the commissions, so the commissions will be more stable.
- Decrease the sliding scale sensitivity to losses (e.g., make it sliding 0.05:1 instead of 1:1 and 0.5:1.). This will stabilize the commissions.
- Add a provision to cap the losses being used in the determination of the commission.
whether the smoothing mechanisms should be used in the determination of an aggregate loss distribution model
include: I would include the smoothing mechanisms in the aggregate loss distribution as this will be a way to estimate aggregate commissions at an ultimate level. The challenge is that it is difficult to reflect the potential that policies can non-renew or be cancelled and then there is no longer the carryforward component.
dont: I would not include the smoothing mechanisms because you want the aggregate loss distribution to reflect the expected potential losses. If the insurance treaty is non-renewed or cancelled, the aggregate distribution will not be representative of the true expected losses.
T/F ”Basics of Reinsurance Pricing,” a loss corridor is a common feature of property per risk treaties.
it is a common feature of proportional treaties, not property per risk treaties
coninsurance clause
it increases retained losses and reduces ceded loss
What is the correct method to interpret the potential profitability of a sliding scale reinsurance agreement from the reinsurer’s perspective
A probability distribution should be associated with intervals of possible loss ratios. For each interval, the sliding scale commission is calculated for the average LR in the interval. These commissions should be weighted by the probabilities to determine the expected commission ratio
