CASUALTY LOSS

1

• CASUALTY LOSS
• RESERVE SEMINAR

1998 Meeting
HOW A.M. BEST EVALUATES RESERVE ADEQUACY
Matthew C. Mosher Managing Actuary September 28,
1998
2

• DISCUSSION OUTLINE

• Purpose
• Sources of Information
• Methods Used
• Determining Ultimates
• Discount Calculation

3

• PURPOSE OF RESERVE ADEQUACY

• Capitalization - Key to Solvency
• Allocation of Capital
• Determine True Profitability

4

• INFORMATION SOURCES

• Statutory Annual Statement
• Actuarial Work Papers
• Supplemental Rating Questionnaire

5

• INTERNAL RESERVE MODEL
• OVERVIEW

• Three Paid Loss Development Based Methods
• Three Incurred Loss Development Based Methods
• LDFs by Line
• Dollar Weighted Age-to-Ultimate LDFs
• Fixed Loss Ratio Override
• Credibility Weighted By-Line

6

• INTERNAL RESERVE MODEL
• LAYOUT

• By Line, By Accident Year
• Adequacy Projection of Each Method
• Credibility Weighted Adequacy
• Carried Reserves
• Loss ALAE Ratios
• By Line Equity
• Net Carried Loss LAE Reserves
• Statutory Discount
• Estimated Deficiency
• Calculated Discount
• Loss Reserve Equity

7

• INTERNAL RESERVE MODEL
• METHODS

• Company-Based
• Paid LD - Based on Previous AY Projections
• Paid LD - Based on Previous AY Sch P, Part 2
• Incurred LD - Based on Previous AY Projections
• Incurred LD - Based on Previous AY Sch P, Part 2
• Industry-Based
• Paid Loss Development
• Incurred Loss Development

8

• METHOD 2 - COMPANY
• PAID LOSS DEVELOPMENT

• Prior Years and AY 1988
• Part 2 Incurred equals ultimate
• AY 1989
• AY89 Ult. AY89 Pd_at_108 x AY88 Pt2
• AY88 Pd_at_108
• AY 1997
• AY97 Ult. AY97 Pd_at_12 x AY94, AY95, AY96 Pt2
• AY94, AY95, AY96 Pd_at_12

9

• METHOD 4 - COMPANY
• INCURRED LOSS DEVELOPMENT

• Prior Years and AY 1988
• Part 2 Incurred equals ultimate
• AY 1989
• AY89 Ult. AY89 PdCs_at_108 x AY88 Pt2
• AY88 PdCs_at_108
• AY 1997
• AY97 Ult. AY97 PdCs_at_12 x AY94, AY95, AY96
  Pt2
• AY94, AY95, AY96 PdCs_at_12

10

• METHOD 1 - COMPANY
• PAID LOSS DEVELOPMENT

• Prior Years
• Req. Res. Carr. Res. x 1 3Yr Dev in
  PYs 2
• PY Carr Res _at_12/94
• AY 1988
• AY88 Ult. AY88 Pt3
• Carr. Res. x 1 3Yr Dev in PYs AY88
  PY AY88 Carr Res _at_12/94

11

• METHOD 1 - COMPANY
• PAID LOSS DEVELOPMENT

• AY 1989
• AY89 Ult. AY89 Pd_at_108 x AY88 Proj Ult
• AY88 Pd_at_108
• AY 1990
• AY90 Ult. AY90 Pd_at_96 x AY88, AY89 Proj Ult
• AY88, AY89 Pd_at_96
• AY 1997
• AY97 Ult. AY97 Pd_at_12 x AY94, AY95, AY96 Proj
  Ult
• AY94, AY95, AY96 Pd_at_12

12

• METHOD 3 -COMPANY
• INCURRED LOSS DEVELOPMENT

• Prior Years
• Req. Res. Carr. Res. x 1 3Yr Dev in
  PYs 2
• PY Carr Res _at_12/94
• AY 1988
• AY88 Ult. AY88 Pt3
• Carr. Res. x 1 3Yr Dev in PYs AY88
  PY AY88 Carr Res _at_12/94

13

• METHOD 3 - COMPANY
• INCURRED LOSS DEVELOPMENT

• AY 1989
• AY89 Ult. AY89 PdCs_at_108 x AY88 Proj Ult
• AY88 PdCs_at_108
• AY 1990
• AY90 Ult. AY90 PdCs_at_96 x AY88, AY89 Proj Ult
• AY88, AY89 PdCs_at_96
• AY 1997
• AY97 Ult. AY97 PdCs_at_12 x AY94, AY95, AY96
  Proj Ult
• AY94, AY95, AY96 PdCs_at_12

14

• METHOD 5 - INDUSTRY
• INCURRED LOSS DEVELOPMENT

• Prior Years Required Reserves
• PY Carr. Res. x Industry Tail Factor
• AY 1988 Ultimate
• AY88 Pt3 AY88 Carr. Res. x Ind. Tail
  Factor
• AY 1989 Ultimate
• AY89 Pt3 x Industry 108-to-Ult. Paid LDF
• AY 1997 Ultimate
• AY97 Pt3 x Industry 12-to-Ult. Paid LDF

15

• METHOD 6 - INDUSTRY
• INCURRED LOSS DEVELOPMENT

• Prior Years Required Reserves
• PY Carr. Res. x Industry Tail Factor
• AY 1988 Ultimate
• AY88 Pt3 AY88 Carr. Res. x Ind. Tail
  Factor
• AY 1989 Ultimate
• AY89 Pt2 - Pt4 x Industry 108-to-Ult.
  Incurred LDF
• AY 1997 Ultimate
• AY97 Pt2 - Pt4 x Industry 12-to-Ult.
  Incurred LDF

16

• FIXED LOSS RATIO OVERRIDE

• Used If LDF gt 4.0
• AY 1997 Loss Ratio
• AY97 Ind. LR x AY95 Co. Ult. LR AY96
  Co. Ult. LR
• AY95 Ind. Ult. LR AY96 Ind.
  Ult. LR
• AY 1997 Ultimate
• AY97 Loss Ratio x 1997 Net Earned Premium

17

• WEIGHTING OF METHODS

• Early Years vs. Latest Years
• Paid vs. Incurred Methods
• Company Credibility Based on Variation in Loss
  Development Pattern

18

• CREDIBILITY

• Sum the Coefficient of Variance over First Six
  Development Periods
• Compare to Industry Levels
• Minimum of 40 Credibility

19

• DISCOUNTING

• Calculated By Line of Business
• Uses Company Payment Patterns, if Stable
• Uses IRS Payment Pattern Calculation
• Three Calendar Year Average
• Uses a 5 Discount Rate

20

• QUALITATIVE/ QUANTITATIVE REVIEW

• Qualitative
• Schedule P Development Pattern
• Avg. Premium Per Policy vs. AY Loss Ratio Trends
• Quantitative
• Model Projection
• Paid to Incurred Ratios
• Reserves to Earned Premium

21

• DISCUSSIONS WITH MANAGEMENT

• Actuarial Work Papers
• Understand Distortions in Data
• Reconcile Differences, if Possible

22

• RATING IMPLICATIONS

• Confidence in Reserve Practices
• Feeds into Capital Adequacy
• Impacts Appraisal of Profitability