Finance 431: Property-Liability Insurance Lecture 6: RatemakingRatemakingRatemaking PrinciplesWhich of the following insurance rating practice would be considered unfairly discriminatory?Ratemaking ProcessRatemaking in the Real WorldRisk ClassificationRatemaking MethodsExamplesCalculate the gross premium based on the following information: Loss frequency 10% Loss severity 900 Fixed expenses 10 Variable expenses 20%Other Factors in RatemakingUnder which rate regulatory law do can insurers change rates without approval?Development of DataCalculate the calendar year earned premium for 2007 based on the following information: Written premium in 2007 $10 million Unearned premium reserve 12/31/06 2.0 million 12/31/07 2.5 millionCalculate the calendar year incurred losses for 2007 based on the following information: Paid losses in 2007 $10 million Loss reserve 12/31/06 2.0 million 12/31/07 2.5 millionSlide 16ExampleRate FilingsFinance 431:Property-Liability InsuranceLecture 6:RatemakingRatemakingActuarial functionsRatemakingLoss reservingData collection and analysisProfitability analysisCompetitive analysisPrepare statistical reportsMergers and acquisitionsPlanningActuarial servicesStaff actuariesConsulting actuariesAdvisory organizations ISO (Insurance Services Office)AAIS (American Association of Insurance Services) NCCI (National Council of Compensation Insurers)SAA (Surety Association of America)Ratemaking PrinciplesCorporate objectivesStableResponsivePromote loss controlCover contingenciesUnderstandableRegulatory objectivesRates must be:AdequateNot excessiveNot unfairly discriminatoryWhich of the following insurance rating practice would be considered unfairly discriminatory?A) To charge higher auto rates for individuals with poor credit scoresB) To charge males more than females for auto insuranceC) To charge homeowners who live near the ocean more for coverageD) To charge drivers in Chicago more for coverage than drivers in UrbanaE) None of the aboveRatemaking ProcessIn a stable world:Calculate amount needed: To pay claimsTo pay expensesAdd these together to findthe rateTerminologyGross rate = total premiumPure premium = claimsExpense loading = expensesProfit and contingencies =return on capital and risk loadingExposure unit = measure of risk assumed in contractWritten premium = premiums bookedEarned premium = pro-rata portion of premiums exposed to lossRatemaking in the Real WorldLoss reservesCase reservesIncurred But Not Reported (IBNR)InflationOther time dependent factors (auto insurance)Traffic densityGas pricesLaw enforcement effortsLegal rules governing loss settlementsTrending adjusts for time dependent factorsSeverity = average lossFrequency = number of claims per exposureRisk ClassificationFor automobile insuranceAge of driverSex and marital status of driverType of vehicleUse of vehicleDriving record of driverMileage drivenTerritory where vehicle is garagedCredit scoreRatemaking MethodsJudgment methodLoss ratio methodPercent rate change = (A-E)/EA = Actual loss ratioE = Expected loss ratio Pure premium methodG = (P+F)/(1-V)G = Gross premiumP = Pure premium = Frequency x SeverityF = Fixed expensesV = Variable expensesExamplesLoss Ratio MethodActual LR = 66%Expected LR = 60%Percent rate change =(66-60)/60 = +10%Pure Premium MethodPure premium = $400Fixed expenses = $50Variable expenses = 25%Gross premium =(400+50)/(1-.25) = 600Calculate the gross premium based on the following information:Loss frequency 10%Loss severity 900Fixed expenses 10Variable expenses 20% A) 90B) 120C) 125D) 500E) None of the aboveOther Factors in RatemakingInvestment IncomeInvestment incomeRealized capital gainsUnrealized capital gainsProfitRate RegulationStatutory standardsAdministrationState-made ratesMandatory bureau membershipPrior approvalFile and useOpen competitionUnder which rate regulatory law do can insurers change rates without approval? A) State made ratesB) Mandatory bureau ratesC) Prior approvalD) File and useE) Open competitionDevelopment of DataCollection of statisticsPolicy yearCalendar yearAccident yearCalendar year calculationsEarned Premium = Beginning UEP Reserve + Written Premium - Ending UEP ReserveIncurred Losses = Paid Losses + Ending Loss Reserve - Beginning Loss ReserveCalculate the calendar year earned premium for 2007 based on the following information:Written premium in 2007 $10 millionUnearned premium reserve12/31/06 2.0 million12/31/07 2.5 millionA) $7.5 millionB) $9.5 millionC) $10.5 millionD) $12 millionE) None of the aboveCalculate the calendar year incurred losses for 2007 based on the following information:Paid losses in 2007 $10 millionLoss reserve12/31/06 2.0 million12/31/07 2.5 millionA) $7.5 millionB) $9.5 millionC) $10.5 millionD) $12 millionE) None of the aboveRatemakingAdjustment of statisticsLoss development factorsTrendingLinearExponentialTerritorial relativitiesClass relativitiesExample2004 Incurred Losses = $10,000,000Trend FactorsFrequency = 1.02Severity = 1.04Rates for coverage in effect for 2008Number of years of trending = 4Trended incurred losses = 10,000,000x(1.02)4x(1.04)4= 12,662,923Earned exposures for 2004 = 20,000Pure premium = 12,662,923/20,000 = 633.15Rate FilingsSchedule of proposed ratesPercentage change in statewide average ratesPercentage change by territory and classStatistical support for changesInvestment income calculationExpense loading dataExplanatory
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