cas 2003 seminar on reinsurance pricing techniques - casualty lines

Pegasus Advisors -Towers Perrin Reinsurance

CAS 2003 Seminar on Reinsurance

Pricing Techniques - Casualty Lines

Given by: Peter W. WildmanJune 2003

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Pitfalls in Pricing Reinsurance Coverage

Aggregate Excess of Loss

Loss Portfolio Transfers (Includes Adverse Development Covers)


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General Issues to Consider(Quantitative and Qualitative)

Motivation of Buyer/Seller Risk Reward/Tradeoff Desired Mix of Business Payout Patterns (correlation to Ultimate Loss Picks) Parameter Risk/Process Risk Data Issues Terms & Conditions of Reinsurance Agreement Claims Handling


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Case Study #1

Prospective Accident Year Stop Loss

Stabilization of results and reduction of reinsurance costs.


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Type: Insurance Company

Policyholders Surplus: $500 millionBook of Business: Multiline (P&C)

Expected Premium: $500 millionExpected Loss Ratio: 66.0%

Market Conditions Hard market conditions, Reinsuranceprotection expensive at lowerretentions

Case Study #1Prospective Accident Year Stop Loss

Company InformationCompany Information


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Provide reinsurance protection at a low cost Stabilize results Reduce/manage total reinsurance costs Protect earnings and surplus Maintain expense ratio Maintain or improve AM Best rating Incorporate sufficient risk transfer (timing & u/w risk) for

accounting approval


Objectives - MotivationsObjectives - Motivations


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Stop Loss TermsStop Loss Terms


Type: Aggregate Excess of Loss

Term: Single Accident Year

Subject Business: Whole Account

SNEP: $500 million

Attachment: 60.0% (U/W neutral)

Limit: $100 million (20% of SNEP)

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Minimum & Deposit: 6.0% of SNEP (est. $30 million)

Additional Premium: 57.5% of UNL xs of 70.0% L/R

Maximum Premium: (est. $58.75 million)

Reinsurer Margin: 5% of All Premium

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All other reinsurance purchased inures to the benefit of this cover.

Funds Withheld - F/W. F/W balance is credited a contractual rate of 5.0%

effective annually. Profit Commission of 100%.


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Accounting ResultsAccounting Results1) Expected - Company meets plan loss ratio

SNEP = $500MSubject Losses = $330M (66% L/R)

Calculations:Attachment = 60.0% x $500M= 300.0MLimit = 20% x 500M= 100.0MCeded Losses = 330M - 300M= 30.0MNet Ceded Premium = 6.0%x500M= 300.0MUnderwriting Income = 30M - 30M= 0.0MPotential PV Cost = 5.0% x 30M= 1.5M


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SubjectLosses

Deviationfrom

ExpectedCededLosses

Reinsurer’sPV Cash

FlowsReturn onPremium

66% 0% 30,000 1,500 5.0%

70% 4% 50,000 1,500 5.0%

75% 9% 75,000 2,219 5.0%

80% 14% 100,000 0 0.0%

85% 19% 100,000 (5,882) -10.0%

90% 24% 100,000 (10,409) -17.7%

Scenario #1Prospective Accident Year Stop Loss

Expected Payout (All Extra Losses Prorated)

Reinsurer’s ResultsReinsurer’s Results


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SubjectLosses

Deviationfrom

ExpectedCededLosses



66% 0% 30,000 1,500 5.0%

70% 4% 50,000 1,500 5.0%

75% 9% 75,000 208 0.5%

80% 14% 100,000 (2,959) -5.0%

85% 19% 100,000 (9,116) -15.5%

90% 24% 100,000 (13,870) -23.6%


Accelerated Payout Pattern



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SubjectLosses

Deviationfrom

ExpectedCededLosses



66% 0% 30,000 1,500 5.0%

70% 4% 50,000 1,500 5.0%

75% 9% 75,000 813 1.8%

80% 14% 100,000 (3,111) -5.3%

85% 19% 100,000 (10,421) -17.7%

90% 24% 100,000 (15,821) -26.9%


Expected Payout (All Extra Losses to Line 1)



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SubjectLosses

Deviationfrom

ExpectedCededLosses



66% 0% 30,000 1,500 5.0%

70% 4% 50,000 1,500 5.0%

75% 9% 75,000 2,219 5.0%

80% 14% 100,000 1,964 3.3%

85% 19% 100,000 (2,786) -4.7%

90% 24% 100,000 (6,203) -10.6%


Expected Payout (All Extra Losses to Line 2)



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Prospective Accident Year Stop Loss(000)

Line 1 Line 2 TotalPremium 250,000 250,000 500,000Expected Losses 155,000 175,000 330,000Expected Loss Ratio 62.0% 70.0% 66.0%

Payout Pattern (Expected)Year Line 1 Line 2 Total1 42.3% 10.0% 25.2%5 89.2% 50.0% 68.5%10 97.0% 75.0% 85.4%20 100.0% 100.0% 100.0%


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Risk Reward Tradeoff

(50,000)

(40,000)

(30,000)

(20,000)

(10,000)

-

10,000

20,000

60.0%

63.0%

66.0%

69.0%

72.0%

75.0%

78.0%

81.0%

84.0%

87.0%

90.0%

Subject Loss Ratio

Prof

itabi

lity

FiniteBlendedTraditional

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Case Study #1Prospective Accident Year Stop LossData Issues - Reinsurer’s AnalysisData Issues - Reinsurer’s Analysis

Client Assessment - Published Rating Senior Management to communicate objectives Client Data Requirements

Historic subject base premiums ((5-10 years) larger if available) Indication of any discontinued lines and corresponding premiums Historical Rate Change, Rate Mods, by line, state, etc., Schedule Credits/Debits

Loss triangulations for past 5-10 U/W years, including the following:


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Reinsurer’s AnalysisReinsurer’s Analysis

Client Data Requirements (continued) Incurred or outstanding indemnity; LAE, Combined

Paid indemnity, Claim Count Triangulations? (Depends on Line); Paid LAE

Policy limit(s) shift over time

Historical Reinsurance Retentions

Draft Placement Slip

Treatment of unique exposures


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Reinsurer’s AnalysisReinsurer’s Analysis

Supplementary Data

Industry Losses

Industry Payout Patterns (What is the Tail?)

Other client information

Press releases


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Case Study #2Loss Portfolio TransfersLoss Portfolio Transfers


Type: Adverse Development Cover

Subject Business: Whole Account

Subject Losses: $500M of carried reserves

Premium: To be negotiated

Attachment: $250M (= $500M - $250M)

Limit: $400M

Reporting: Quarterly 60 days in arrears

Settlements: Quarterly 75 days in arrears

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Loss Portfolio Transfers

Pricing ConsiderationsPricing Considerations Probability of Cover being used (Contingent, attachment

relative to held reserves)

Who wants or is a natural buyer of Old Years’ Reserves? (lots of Sellers)

Insurance is easy business to enter, very difficult to exit.

Run-off Costs (How much Management time re: Actuarial, Claims, Financial, Ceded Reinsurance, etc.)

Motivations for Loss Portfolio Transfer


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Motivations of Buyer/SellerMotivations of Buyer/Seller

Sale of Company

Exit particular line of business/state of operation

Economic Risk Transfer

Financial Management


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Data AnalysisData Analysis

Due Diligence (Internal or Third Party)

House Purchase Analogy (Who cares more about potential defects, buyer or home inspector?)

Ask any and all questions!

Any segments not reviewed


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Data Issues - Reinsurer’s AnalysisData Issues - Reinsurer’s Analysis

Client Assessment - Published Rating

Client Data Requirements Independent Actuarial Review Internal Actuarial Projections Confidence Intervals Incurred Loss Triangles (Gross and Net) Paid Loss Triangles (Gross and Net)

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Loss Portfolio TransfersData Issues - Reinsurer’s AnalysisData Issues - Reinsurer’s Analysis

Client Data Requirements (continued) Historical pricing of business Historical inuring reinsurances Claims audits Reserving policies Changes to claims handling

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Data Issues - Reinsurer’s AnalysisData Issues - Reinsurer’s Analysis

Supplementary Data

Industry Losses

Industry Payout Patterns

Peer company information

Press releases

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Claims HandlingClaims Handling

Claims Audit - Access to Claim Files - Where are the Claim Files - Number of Open Claims

Adequacy of Held Reserves

Reconcile Claims Handling Philosophies


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Claims HandlingClaims Handling

Format of Claim Data (i.e, Electronic or Hard Copies)

Complete Claims History

Number of Years of History

Transferring Data from Buyer to Seller

Systems Compatibility/Reporting Responsibility


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Claims Handling/Run Off CostsClaims Handling/Run Off Costs

Staffing Requirement

Intellectual Capital

Additional TPA Costs

Less attention paid to than Actuarial/Financial evaluation


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Terms and Conditions of Reinsurance AgreementTerms and Conditions of Reinsurance Agreement

Expected Results based upon actuarial projected probabilities

Upside to downside relationship

Return on Equity (Capital allocation) LOC usage

Underwriting constraints

Relationship implications - historical/prospective

Subject Loss Limitations (Asbestos/EIL)

cas 2003 seminar on reinsurance pricing techniques - casualty lines

Documents

prospective accident

reduction of reinsurance

lossstop loss termscas

accounting approvalcase

lrmaximum premium

millionadditional premium

millionexpected loss

plan loss ratiosnep