1. Product Pricing Fundamental Equation
    Price = Cost + Pro fit
  2. Defi ne "Exposure (X)"
    Basic Unit of risk underlying the premium
  3. De fine "Premium (P)"
    Amount insured pays for insurance policy
  4. What are the Premium Measurement methods
    • Written premium - from policies issued during time period
    • Earned premium - from coverage provided during time period
    • Unearned premium - portion of written for which coverage has not been provided
    • In-force premium - full-term premium for policies that are in eff ect at certain point in time
  5. Define "Claim"
    Insured request to insurer for indemni cation for fi nancial loss from an event covered by the policy
  6. Defi ne "Claimant"
    Individual(s) making the demand for indemni cation (claim) by alleging injuries or damages covered by the policy
  7. Defi ne "Date of Loss"
    a.k.a. accident date or occurrence date - date of event causing the loss
  8. Defi ne "Report Date"
    When claimant reports claim to insurer
  9. Defi ne "IBNR (Incurred but not reported)"
    Claims that have occurred, but not currently known by insurer
  10. Defi ne "Loss"
    Amount payable to claimant under the terms of the insurance policy
  11. De fine "Paid Losses"
    Amounts that have been paid to claimants
  12. De fine "Case Reserve"
    Estimate of unpaid loss for known claims
  13. Defi ne "Reported Loss (a.k.a. Case Incurred Loss)"
    Sum of paid loss and ending case reserve

    Reported Losses = Paid Losses + Case Reserve
  14. Defi ne "Ultimate Loss"
    • Amount required to settle all claims for a de fined group of policies
    • Diff ers from reported loss due to IBNR and case adequacy (or IBNER)

    Ultimate Losses = Reported Losses + IBNR Reserve+ IBNER Reserve
  15. De fine "Allocated Loss Adjustment Expenses (ALAE)"
    • Claim related expenses that can directly be attributable to a specifi c claim
    • E.g., legal fees for outside counsel hired to work on a specifi c claim
  16. Defi ne "Unallocated Loss Adjustment Expenses (ULAE)"
    • Claim related expenses that cannot directly be attributable toa speci fic claim
    • E.g., claims department salaries and rent
  17. What are some characteristics of Commissions and Brokerage?
    • 1. Paid to insurance agents or brokers for generating business
    • 2. Usually stated as percentage of written premium
    • 3. May vary between new and renewal business
    • 4. May be based on quality and/or volume of business written
  18. In relation to underwriting expenses, what are "Other Acquisitions"?
    • Expenses other than commissions to acquire business
    • E.g., advertising, mailings, salaries of employees who help write policies
  19. What is a "General" expense in relation to underwriting expenses?
    • Remaining expenses associated with the operations
    • E.g., rent, building maintenance, salaries of employees not included in other categories
  20. What are "Taxes, Licenses, and Fees" in relation to underwriting expenses?
    • Taxes and fees for writing business
    • Does not include federal income taxes
  21. De fine Underwriting Profi t
    • Company assumes risk that premium charged is not enough to pay losses and expenses
    • Must maintain capital to support this risk
    • Entitles company to reasonable expected return on capital
  22. What are the two main sources of pro fit?
    • Underwriting profi t (or operating income): Generated from individual insurance policies
    • Investment income: Generated by investing funds held by company
  23. What is the Goal of Ratemaking?
    To have a balanced fundamental insurance equation

    • In accordance with 2nd CAS Ratemaking Principle
    • *A rate provides for all costs associated with the transfer of risk
    • *Achieve equilibrium at the aggregate level
  24. What is the Fundamental Insurance Equation?
    Premium = Losses + LAE + UW Expenses + UW Pro fit
  25. Appropriate balance of the Fundamental Insurance Equation must consider facts that:
    • Ratemaking is prospective
    • Should be achieved on overall and individual level
  26. Why is it common to use relevant historical experience to estimate future costs?
    Must adjust experience to expected future level when rates to be in effect

    1st CAS Ratemaking Principle: A rate is an estimate of the expected value of future costs
  27. What are some examples of items for which experience may need adjustment?
    • 1. Rate changes
    • 2. Changes in mix of business
    • 3. Operational changes
    • 4. Law changes
    • 5. Inflationary pressures
  28. Frequency
    • Used to:
    • 1.Identify trends in claims occurrence or utilization
    • 2.Measure eff ectiveness of u/w actions

    Frequency = Num of Claims / Num of Exposures
  29. Severity
    • Provides information about:
    • 1.Loss trends
    • 2.Impact of changes in claims handling procedures
    • Severity = Total Losses / Num of Claims

    • Can vary:
    • Paid Severity = Paid Loss/Closed Claims
    • Reported Severity = Rpt Loss/Rpt Claims
  30. Pure premium or loss cost (L)
    • 1. Highlight trends in overall loss costs due to changes in both frequency and severity
    • Pure Premium = Total Losses / Num of Exposures = Frequency x Severity
  31. Average Premium
    • 1. Highlight changes in mix of business
    • Average Premium = Total Premium / Num of Exposures
  32. Loss Ratio
    • 1. Used to measure rate adequacy
    • Loss Ratio = Total Losses / Total Premium = Pure Premium / Average Premium
  33. Loss adjustment expense ratio
    • Used to:
    • 1. Monitor stability of costs associated with claim settlement procedures
    • 2. Compare to other insurers to evaluate claims settlement procedures

    LAE Ratio = Total LAE / Total Losses
  34. Underwriting Expense Ratio
    • 1. Monitor and compare actual to expected
    • 2. May also compare to other insurers as a benchmark
    • UW Exp Ratio = Total UW Expense / Total Premium
  35. Operating Expense Ratio
    • 1. Important when reviewing overall pro tability
    • 2. Operational expenditures: measure portion of each prem $ used to pay for UW expenses and Loss Adjustment

    OER = UW Exp Ratio + (LAE / Earned Prem)
  36. Combined Ratio
    • 1.Primary measure of profi tability of a book of business
    • Combined Ratio = Loss Ratio + (LAE / Earned Prem) + (UW Expenses / Written Prem)
  37. Retention Ratio
    • 1. Measures percentage of current insureds that renew their policies at expiration
    • 2. Useful for product management and marketing
    • -Used to determine the competitiveness of rates
    • -Closely monitored following rate changes and major changes in service
    • -Key parameter in projecting future premium volume
    • Retention Ratio = Number of Policies Renewed / Num of Potential Renewal Pols
  38. Close Ratio (a.k.a. hit ratio or conversion rate)
    • 1. Measures rate at which prospective insureds accept a quote for new business
    • 2. Useful for product management and marketing

    Close Ratio = Number of Accepted Quotes / Number of Quotes
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