pricing strategies for multi-line multi-year (mlmy) policies
DESCRIPTION
Pricing Strategies for Multi-Line Multi-Year (MLMY) Policies. April 12, 1999 CAS Financial Risk Management Seminar Denver, Colorado Nathan J. Babcock, ACAS, MAAA Deloitte & Touche LLP. Agenda. I.MLMY Advantages, Disadvantages II.Pricing Example III.MLMY Pricing Considerations - PowerPoint PPT PresentationTRANSCRIPT
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Pricing Strategies for Multi-Line Multi-Year
(MLMY) Policies
April 12, 1999
CAS Financial Risk Management Seminar
Denver, Colorado
Nathan J. Babcock, ACAS, MAAADeloitte & Touche LLP
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Agenda
I. MLMY Advantages, Disadvantages
II. Pricing Example
III. MLMY Pricing Considerations
IV. Risk Loads
V. Business Dynamics
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Insurer/Seller
Extended duration of premium receipts Enhanced market share Relief from market cycles Higher “implied” renewal rates generating a more
“seasoned” book Development of long-term relationships
MLMY Advantages
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Insured/Buyers
Lower, more stable premium Lower commission Simplified administration Relief from market cycles Enhanced Corporate Risk Management focus Coverage for traditionally uninsurable risks Guaranteed renewal Customized program
MLMY Advantages
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MLMY DisadvantagesInsurer/Seller
Limited ability to react to poor experience by increasing rates
Complex pricing Complex profitability measures Allocation issues (WP, UPR, capital)
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MLMY DisadvantagesInsured/Buyer
Possibility of an aberrant line or loss impacting overall coverage for all lines
Opportunity cost of locking-in Lack of focus on traditional risk management “All eggs in one basket”
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Pricing Example
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Burning cost On-level historical loss ratios Exposure rating Monte Carlo simulation
Traditional Pricing Approaches
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Pricing of a layer excess of a self-insured retention SIR applies per occurrence to all lines, with
annual and term aggregates Lines considered: WC, GL, EQ, FX Model output = losses and premiums by layer
Policy ExampleBaseline Assumptions
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ExampleLoss Metrics
WCMean = $12 MMStd dev = $1.5 MMCV = 0.125
GLMean = $4 MMStd dev = $1 MMCV = 0.250
EQMean = $2 MMStd dev = $25 MMCV = 12.500
FXMean = $3 MMStd dev = $5 MMCV = 1.667
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Scenario I
$25 mm per occ. and ann. agg. SIR
$100 mm annualaggregate limit
Year 1
WC sublimit - $500k per occ. SIR
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Scenarios II & III
Prog: $25 mmWC: $500K
Prog: $25 mmWC: $500K
Prog: $25 mmWC: $500K
(implicit $300 mm term aggregate)
Year 1 Year 2 Year 3
$100 mmann aggregate
$100 mmann aggregate
$100 mmann aggregate
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Scenario IV
Prog: $25 mmWC: $500K
Prog: $25 mmWC: $500K
Prog: $25 mmWC: $500K
$100 mm term aggregate limit
Year 1 Year 2 Year 3
$100 mmann agg.
$100 mmann agg.
$100 mmann agg.
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Scenario I (1 one-year policy) $5 mm
Scenario II (3 one-year policies) $15 mm
Scenario III (1 three-year policy) $12.5 mm
Scenario IV (3-year policy with a term limit) $12 mm
Modeled Premiums
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Multi-Line / Multi-YearPricing Considerations
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Distribution of Aggregate Losses, Relative to Expected Value
One Two Three Four
Number of Years in Policy Term
5%-50% 50%-75% 75%-95%
Portfolio Effect
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Correlation
Among lines of business
Among multiple years
More or less risk?
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Impact of Correlation on Risk Loads
-0.50 0.00 0.50
Line of Business Correlation
Pre
miu
m
Loss & Expense Risk Load
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Discount Rate Implied risk margin
Paying the “last losses” on aggregate
Appropriate patterns of premium and loss payments
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Reinstatements Use Monte Carlo simulation output to determine likelihood of limits
“blown” Or, model likelihood of limits “blown” once a significant loss has
occurred. When would limits be reinstated Very judgmental -- adjust insured’s assumed loss distribution for large
loss that has occurred?
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Additional MLMYPricing Considerations
Exposure growth Sublimits/Towers Knockout features Residual Retentions
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“THE INSURANCE PREMIUM FORMULA”
P = (expected losses) + (risk load) 1 - (expense ratio)
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Risk Loads
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Risk Load Considerations
Insured-Specific Attributes Loss distribution - standard deviation Loss distribution - coefficient of variation Confidence level desired
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Risk Load Considerations
Insurer-Specific Attributes Return on equity/surplus Expected policyholder deficit Limitations on probability of ruin Probability of surplus declining by xx% Value of RBC or AM Best ratings
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Risk Load Considerations
Categories of risk load factors Insured-specific = process risk Insurer-specific = parameter risk
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Risk Load as a Percentage of Premium
0.0%
4.0%
8.0%
12.0%
WC WC + EQ WC + GL + EQ WC + GL + EQ + FX
Variance Standard Deviation Coefficient of Variation
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Business Dynamics
Opportunity cost of locking in Market cycle Renewal retention pressures Hedges in other areas of insurer’s operations Can risk loads be achieved?
– One risk vs. entire book
– As a cost of liquidity
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Ensure no big hits early on in program Dynamic modifications to program Expense allocation/UPR Accounting issues (FAS113)
Business Dynamics