Other Considerations

Regulatory Constraints

• Examples of Regulations in the U.S.
  • Limiting the amount of rate changes:
    • Overall Book.
    • Individual.
  • Require ==written notice to insureds== about large rate increases.
  • Prohibit certain rating variables.
    • e.g., Credit score (not related to direct behavior and controllable).
  • Prescribing certain ==Ratemaking Techniques==.
    • e.g., Multivariate Techniques.
  • Revise ratemaking assumptions.
    • e.g., disagreement with regulator on the choice of loss trend.
• Actions
  • Take legal action.
  • Revise ==UW guidelines== to limit business at inadequate rates.
  • Revise ==marketing== to limit business at inadequate rates.
  • Use a proxy variable when a variable is prohibited.

Operational Constraints

• Examples of Operational Constraints
  • System limitations
    • Depends on:
      • Cost to implement change (extent of rate change: new rate or rating variable).
      • Number of computer systems impacted (policy processing, claims).
  • Resource constraints
    • Example: New rating variable requiring specialized staff / inspectors, which might be ==very expensive relative to the expected benefit of the additional information==.
      • Collect and process data for the new variable.
      • Inspectors to visually inspect the insured property.
    • Cost-benefit analysis
      • Increased profits from implementation exceeds the cost implementation.
      • Requires assumptions about the indirect effects of the change.

Marketing Constraints

• How much are the insureds willing to pay for insurance?

  • This determines: How many insureds buy and how much total profit can be earned?

  • Factors influencing insured's purchasing decision

  • Competitor's prices.

  • Overall cost of the product.
  • "Rate changes (for existing customers)" (pdf).
  • Insured characteristics.
    • How sensitive are they to prices?
  • Customer ==satisfaction== and brand ==loyalty==.

  • Traditional Techniques for Incorporating Mkt. Considerations

  • Things to consider: #checklist

  • Competitive Comparison
    • Obtain rates for a competitor: re-rate existing policies with competitor's rates and insurer's proposed rates and see which one is cheaper. Check the market segments for which this rate will be cheaper.
    • Difficult to obtain competitors rates.
    • The UW Guidelines of the competitors are unknown so ==unfair comparison==.
    • Metrics
      • % Competitive Position = Competitor Premium / Company Premium - 1.
        • How better is the competitor than you? Positive is bad for you.
      • $ Competitive Position = Competitor Premium - Company Premium.
        • Same... just additive.
      • % Win = # of risks meeting criteria / total # of risks.
        • Criteria e.g.: Premium is lower than Competitor. How many risks have success in terms of competitive advantage?
      • Rank = Rank of the Company premium when compared to others.
  • Close Ratios
    • Monitor these ratios closely after the implementation to identify impact on new and renewal customers.
    • Close Ratio = # of Accepted Quotes / # of Quotes.
    • Retention Ratio = # of Policies Renewed / # of ==Potential Renewal== Policies.
    • % Policy Growth = Delta # of Policies during the period / # of Policies at the beginning of the period.
  • Distributional Analysis
    • Identify which segments of the book of business are growing and shrinking over time.
    • Examples
      • 20% of new business: aged 20-25 ==vs== 10% of existing business: aged 20-25.
      • If 30% of the drivers in a state are aged 20-25, and the insurer insures only 10% of those drivers ==then== the company is under-represented in that segment (20-25) of the market.
  • "Dislocation analysis (also called disruption analysis)" (pdf).
    • Impact of rate changes on existing customers.
    • Quantify how many customers will receive the rate changes of different %s and $ amounts.
      • Because customers with large changes may have a lower probability of retention.
    • This way the company can try and take proactive action to prepare the customer for the rate change.
      • e.g., discuss the possibility of increasing the deductible to help offset the rate increase.

  • Systematic Techniques for Incorporating Mkt. Considerations

  • Advanced Techniques

    • Examples
    • Lifetime Value Analysis
      • Also known as Asset Share Pricing.
      • Look at profitability of an insured over the entire lifetime with the insurer (in contrast to the short-term time horizon with the traditional approaches).
      • Assumptions
        • Insured's probabilities of renewal.
        • Expected profitability over lifetime.
    • Optimized Pricing
      • Multivariate techniques to determine Price Elasticity.
        • Of the new and renewal customers based on their characteristics.
      • New customers are more price sensitive.
        • Takes more effort for existing customers to shop for insurance and change carriers.
      • Optimized Pricing techniques consider the impact on mix, the propensity to renew after a rate change.
  • "With these estimates in addition to the loss estimates, the insurer can test different scenarios of rate changes and how they will impact the total profit and growth of the insurer." (pdf).

Underwriting Cycles

The profit and growth of the entire insurance industry tends to be cyclical in nature.

• A cycle between "Hard" and "Soft" markets.
  • Hard: prices are high and insurer profits are high, but growth is low due to high prices.
  • Soft: prices are low and companies are growing.
• Cycle
  • Arbitrarily starting from the hard market.
  • Market is ==hard==.
  • To attract more business, some insurers lower rates.
  • To maintain competitiveness, all insurers lower rates. Market becomes ==soft==.
  • In response to low (or negative) profit levels, insurers restrict business or increase prices to improve profitability.
  • Eventually, all insurers raise prices. Market becomes ==hard==.

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