Risk selection has been around for a while. As long ago as 1762, The Equitable Life Assurance Society was asking applicants to sign a declaration of health and to face a panel of doctors; any “unhealthy looking ones” were refused coverage.
Comprehending medical information as a predictor of mortality is still the bedrock of underwriters’ skills today. The numerical rating system, first described in 1919, has become the universally accepted tool for differentiating risk. Devised as a system of risk evaluation based on mortality ratios expressed as a percentage, it allowed life insurance to be extended to people with less than perfect health.
But this status quo is unlikely to be sustained much longer. Underwriting needs a further cycle of invention to fit with a digital world and the way we live in it.
Two parallel social developments will alter the nature of the information processed by future underwriters. One is the increasing use of connected devices to measure and share personal physical performance and health status. The other is the growing popularity of digital health solutions, whether as downloads from app stores or as prescriptions from medically approved ecosystems.
We will soon hold more detail about ourselves than occasional doctor visits can record. People will expect insurers to use selected parts of our data to provide a more nuanced offering than the numerical rating system can deliver.
Time will tell if continuous data on sleep, movement, social engagement, exercise intensity and so on is any more or less predictive of mortality than scraps of detail found in extracts of medical records.
It’s possible that if we were to invent underwriting for today, we might take a less medical path. Unlike blood, digital data doesn’t spoil in the post or require people to attend appointments at inconvenient times.
As part of our continued efforts to help insurers improve their interactions with clients, Gen Re has conducted several Behavioral Economics (BE) research projects.
BE has come to the forefront by challenging the traditional economic theory that individuals are essentially sound and rational thinkers. Instead, BE asserts that people use mental shortcuts. It also aims to explain why people make irrational decisions. Through experimentation, BE tests ways to encourage individuals to slow down their thought processes.
Gen Re found that when BE techniques were applied to life insurance applications, small changes in the way that questions were designed can lead to more thoughtful completion of responses. This, in turn, encourages better disclosure of medical conditions, resulting in a more comprehensive view of the individual’s health.
Through this leading research, Gen Re found that a five-point scale, multiple-choice question design prompted respondents to actively think about each medical condition, increasing their chance of remembering whether they have ever been diagnosed. In contrast, open-ended questions were found to be more likely to create some uncertainty or difficulty in recollection for individuals completing the application.
Additionally, clear definitions for each option eliminated the uncertainty respondents may have had about whether they qualified as “having” the medical condition.
Our BE studies have shown that by implementing a new design framework, carriers can not only improve the clarity of their application questions but also raise the level of information that is disclosed by applicants. Ultimately, this can have a positive impact on the underwriting process, mortality and morbidity results, and company profitability.
Personal Auto Liability (PAL) results have improved and are moving in the right direction, as rate increases and re-underwriting actions take effect across the market. But not every carrier can say the same about their book of PAL business.
At Gen Re, we recently identified three differentiating factors that can drive improvements in private auto portfolios and help carriers keep on the right side of an improving PAL market.
First, while loss frequency is relatively flat, we see the loss severity trend averaging close to 4% and the combined frequency and severity trend at 3.5%. Importantly, the major contributors – higher incidence of litigation, cost shifting, medical costs and rising repair costs – will persist.
Second, we observe that the large specialists and direct writers are better at identifying and quickly responding to trends by segment than the rest of the PAL market. Smaller companies tend to rely on less frequent, high level rate actions that can miss the mark and prove inadequate. Moreover, top industry performers recognized prior year reserve adjustments faster, while many continue to struggle with adverse development.
Last, a broad-brush rate increase is likely to change the mix of a portfolio: preferred accounts could leave and be replaced by less profitable drivers and territories. It means that the effective rate change after a 10% filed rate increase could be significantly reduced when factoring in the higher loss experience. Also, the new portfolio profile after the rate hike may not align with company goals.
These different implications do not necessarily render rate and underwriting actions incomplete or unsuccessful. The serious problem of a large gap between loss and premium trend has been ameliorated afterall.
But always remember that continuous efforts are needed to stay on the road to profitability and prevent that gap from returning.
NET PREMIUMS WRITTEN
*Amounts in millions of U.S. dollars.
Underwriting balances exclude the impact of intercompany loss portfolio and quota share retrocessional agreements between General Re Corporation and Berkshire Hathaway affiliates.
Realized gains/losses in 2018 include $2,046 of unrealized losses on equity securities, under new US GAAP requirements introduced last year. Comparative amounts were not restated. Unrealized gains on equity securities of $1,119 in 2017 were reported within shareholder’s equity.