Study 7: Pricing the Risk

Question 1

Premium

Answer 1

The price of insurance protection for a specified risk for a specified period of time

Question 2

Pure Premium

Answer 2

The portion of the total premium that is needed to pay expected losses. It does not take into account money needed for company expenses

Question 3

Development Factors

Answer 3

Adjustments to current reserves for claims that have yet to be settled to reflect the estimated final cost of those claims

Question 4

Trend Factors

Answer 4

Adjustments applied to all losses to reflect what they would probably cost if they were to occur next year rather than having occurred at some time in the past

Question 5

Acquisition Costs

Answer 5

The costs of putting business on the books and acquiring the premium. Includes agents/brokers commissions, field representatives’ costs, premium tax, and perhaps relevant head office acquisition costs of operation

Question 6

Commission

Answer 6

The percentage of the premium the insurer pays to the broker or agent who mediated the transaction between insurer and policyholder

Question 7

Administrative Expenses

Answer 7

The general expenses the insurer incurs to operate its business. Includes the cost of providing and maintaining premises in which to operate, buying or leasing equipment, purchasing office supplies, paying salaries and benefits for staff, and covering interest costs on debt

Question 8

ULAE’s

Answer 8

Unallocated loss adjustment expenses

Question 9

Underwriting Profit

Answer 9

The amount of money an insurance company gains as a result of its insurance operations. Excess of earned premiums collected over loss payments and expenses

Question 10

Underwriting Loss

Answer 10

The amount of money that an insurance company loses as a result of its insurance operations. It excludes investment transactions and income taxes

Question 11

Actuary

Answer 11

A professional skilled in the application of mathematics to financial problems

Question 12

Ratemaking

Answer 12

The process of compiling and analyzing data to establish rates that accurately reflect the level of risk. Usually performed by actuaries

Question 13

Rate

Answer 13

Amount charged to an insured that reflects the expectation of loss for a covered risk, insurance company expenses, and profit. In other words, it is the basis of premium calculation for the insurance provided for the exposure

Question 14

3 Major components of any rate

Answer 14

1. Anticipated cost of settling claims (the loss ratio)
2. Acquisition costs of the business, such as commissions
3. Cost of administering the process, including taxies levied on the premiums

Question 15

Establishing Rate Adequacy (8 Steps)

Answer 15

1. Classify risks based on the types of objects of insurance, hazards of exposure, or both
2. Determine the number and nature of the rating classes
3. Select the proper measure of exposure
4. Gather loss statistics
5. Predict future losses based on past losses
6. Calculate the pure premium from the predicted losses
7. Calculate the total premium
8. Calculate the premium rate or unit cost

Question 16

Automobile Statistical Plan (ASP)

Answer 16

A collection of statistical information that all automobile insurers who write business in Canada must record and file as prescribed by the superintendents of insurance. Commonly known as the Green Book

Question 17

Law of large numbers

Answer 17

The mathematical premise that states that the degree of uncertainty is reduced as the number of events increases

Question 18

Class Rating

Answer 18

Used when statistics can be gathered on a large number of risks that share common characteristics

Question 19

Schedule Rating

Answer 19

A method of rating risks by measuring them against fixed standards of construction and protection. Risks below standards earn a charge that increases the rate; risks above earn a credit that reduces the rate

Question 20

2 Conditions for Rate Adequacy

Answer 20

1. The actuarial forecast of future losses based on past losses is accurate for the population
2. The sample represented by the book of business written by a particular underwriter or insurer is representative of the population