price monitoring: a governance issue isaac mashitz - swiss re cas seminar on ratemaking march 8,...
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Price Monitoring: A Governance IssueIsaac Mashitz - Swiss Re
CAS Seminar on Ratemaking
March 8, 2007
Price MonitoringA Governance IssueCAS Ratemaking Seminar3/8/200
Slide 2
Governance
Aggregate Accumulations
Policy Wordings
Underwriting
Operations
Outward cessions
Price Adequacy
etc.
Price Monitoring:A Governance IssueCAS Ratemaking Seminar 3/8/07
Slide 3
Price Adequacy
Understand and measure past and current profitability
Understand and measure changing exposure environment
Identify or create usable benchmark
Monitor each pricing judgement
Monitor External Rates/Prices
Monitor Internal Rates/Prices
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 4
Why is Price Monitoring So Important??
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 5
Accident Gross Earned Estimated Estimated Smoothed RestatedYear Premium Ultimate Loss Ultimate LR Premium Loss Ratio1984 $9.43 $19.81 210%1985 $14.55 $19.40 133%1986 $25.49 $15.16 59%1987 $26.15 $13.59 52% $26.15 52%1988 $23.64 $13.93 59% $26.96 52%1989 $21.58 $14.36 67% $27.78 52%1990 $21.12 $14.83 70% $28.63 52%1991 $20.18 $14.45 72% $29.51 49%1992 $19.64 $14.17 72% $30.42 47%1993 $19.66 $14.75 75% $31.35 47%1994 $20.82 $15.97 77% $32.31 49%1995 $19.77 $15.72 79% $33.30 47%1996 $19.16 $16.32 85% $34.32 48%1997 $19.53 $18.42 94% $35.37 52%1998 $20.64 $22.05 107% $36.46 60%1999 $21.68 $25.66 118% $37.58 68%2000 $22.03 $26.38 120% $38.73 68%2001 $27.57 $27.05 98% $39.91 68%2002 $32.75 $24.88 76% $41.14 60%2003 $39.79 $25.57 64% $42.40 60%2004 $44.02 $27.07 61% $43.70 62%2005 $45.04 $29.86 66% $45.04 66%Total $534.25 $429.38 80%
Annual Growth1987-2005 (Exp. Fit) 3.4% 5.0%
1987-2005 3.1% 4.5% Amounts in USD Billions
Source: AM Bests Averages and Averages and primary company Annual Statements
US P&C Primary IndustryGeneral Liability Occurrence Loss Ratios
Note
1. GL includes Products Liability.
2. Losses grew at about 5% per year since 1987 and 7% per year since 1996.
3. Smoothing the premium virtually eliminates the cycle with only a small residual cyclical effect.
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 6
US P&C Primary IndustryGeneral Liability Occurrence Loss Ratios
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
0%
20%
40%
60%
80%
100%
120%
140%
1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Accident Years
Lo
ss R
atio
s
Actual L/R
Restated L/R
Slide 7
Ultimate LossesAccident Primary Ultimate losses
Year Industry GDP As a % of GDP1995 $50.82 $7,398 0.69%1996 $53.05 $7,817 0.68%1997 $58.02 $8,304 0.70%1998 $65.87 $8,747 0.75%1999 $73.67 $9,268 0.79%2000 $77.41 $9,817 0.79%2001 $78.19 $10,128 0.77%2002 $72.42 $10,470 0.69%2003 $72.64 $10,971 0.66%2004 $75.37 $11,734 0.64%2005 $83.26 $12,487 0.67%
Average1995 - 2005
Annual Growth 5.1% 5.4% 0.71%Exponential Fit 4.5% 5.2% 0.71%
Amounts in USD Billions*Excludes Professional Liability
US P&C Primary Industry Commercial Casualty Losses* vs US Gross Domestic Product
1. Over the long term, losses and GDP have grown at approximately the same rate.
2. Losses as a % of GDP grew in the soft market and declined since 2002.
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 8
Umbrella:
Average Prices Per Million
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
0
2,000
4,000
6,000
8,000
10,000
12,000
14,000
1994 1995 1996 1997 1998 1999 2000 2001 2002 2003
Source: Marsh
Slide 9
Three Generic Primary Rate Monitors
Individual Policy Comparisons at Renewal
Need to adjust for (lim, att pt, exposure)
Unable to adjust for mix of business
New vs Renewal
Rate per Exposure Metric for Homogeneous Segments
Homogeneous segments rare for Commercial Lines
Comparisons to Benchmark
Need detailed benchmark
Questionable accuracy by mix
Consistency over time
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 10
Renewal Business Bias
Assumptions
Renewal Price Change -5%
New Business Price Change -25%
Renewal Retention 65%
Results
Calculated Actual
Annual price deterioration -5% -12%
Three Year Compound effect-14% -32%Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 11
Renewal Business Bias
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07 -35%
-30%
-25%
-20%
-15%
-10%
-5%
0%
Calculated Actual
Annual Price Deterioration
Three Year Compound effect
Slide 12
Technical Issues
Minimum Premiums
Limits/Attachment Points
What about capital charge differences
Exposure
Units: Auto vs GL
Primary PremiumPrimary Expected LossD&O Market Value or Sales vs Market volatility
Schedule credits and debits
Experience mod/PH DIV/Retrospective rated
Rate increase vs “real achieved”
Risk Classification/Tier
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 13
Systemic Issues
Objectivity vs Subjectivity
New Business & Lost Business
Terms and Conditions
Underwriting risk selection and guidelines
Movement in a soft market from E&S to Standard market
Generally these items leverage and exaggerate calculated price movements
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 14
Terms and Conditions
Correlates and leverages price declines in soft market
D&O – Entity Coverage
Umbrella – Aggregate Drop Downs
EPLI on GL/Umbrella policies for free
Extended reporting periods on prior acts for free
Multi year policies with cancellation option for free
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 15
Reinsurer Issues
Reinsurer needs to understand thoroughly primary rate monitor
Commission changes vs Premium changes – Reinsurer and Primary have different objectives
Measure against internal planning objective – alternate purpose
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 16
Premium at Present Rates Approach
Works well for:
Personal Lines
Standard and Small/Medium Commercial Lines
Rates current in force book at last year’s and this year’s rate levels
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 17
Sophisticated Benchmark
Used for:
Reinsurance treaties
Large commercial Accounts
Individually analyzed and priced deals
Consistently parameterized individual account pricing model
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 18
Sophisticated Benchmark
Need to measure actual parameters vs default parameters
Need to measure use of credibility against a standard
Experience vs Exposure rating
Experience years
Etc.
Interest Rate Movement
Subjective Issues
Underwriting/Risk selection improvement/deterioration
Terms and Conditions
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 19
Reasons for having strong price monitoring
Input into reserving process
Input into corporate and strategic planning
Creates transparency on the pricing decisions and drives appropriate discipline
Price monitoring is important to reinsurers in the pricing process
Poor metrics will often be thrown out or tempered and replaced with more punitive defaults.
Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07
Slide 20
GovernanceThe Age of Information
On an individual account basis:
Record each pricing action/judgement
actual vs default parameters
credibility usage
Measure actual loss emergence vs expected
Measure actual loss payout vs expected
Measure actual premium pay-in vs expected
Measure actual profitability against expected
etc.Price Monitoring:A Governance IssueCAS Ratemaking Seminar3/8/07