Commercial Lines Pricing

By David Zornek, Candidate Representative, and Katrina Redelsheimer, FCAS, Candidate Liaison Committee

This is the fifth in a series of “This Actuarial Life” articles that illustrates the day-to-day life of the actuary in different fields.

Almost half of actuaries work for insurance companies, and the bulk of those actuaries work on the pricing side of the insurance equation. Pricing, or ratemaking, is a core part of the actuary’s skillset, something all of us learn through exams. Those who spend their careers focused on pricing know that Exam 5 is just the beginning. Pricing techniques vary widely, in particular between personal lines and commercial lines. This article provides a glimpse into the world of commercial lines ratemaking. Commercial policies can insure a very wide range of risks — anything from an automobile to a day care center to an oil refinery. As a result, there is no one-size-fits-all description of a commercial ratemaking project. There are standard indication analyses, which might be completed by only one actuary, while a complex rate segmentation project might require an entire team of actuaries working together. These large projects will generally be broken down into smaller sub-projects completed by individual members of the team.

In contrast to personal lines, which tend to have relatively homogeneous exposures, commercial lines data can be much more volatile and tend to involve heterogeneous exposures. As a result, selections of trend and development factors often rely heavily on actuarial judgment. It’s often said that actuarial work is as much art as it is science, and the “art” side is heavily emphasized in commercial pricing. Selections will draw on specialized knowledge of historical products and business practices. Acquiring this knowledge may require additional research beyond the data and creates additional need and opportunity for learning from others.

Commercial pricing actuaries work closely with other departments in determining rate changes. The actuary may perform a ratemaking analysis, but management and underwriters will often lack the technical knowledge to understand the analysis without further explanation from the actuary. The ability to communicate and justify an actuarial analysis to non-technical business partners becomes especially important when the actuarial recommendation conflicts with the expectations and desires of underwriters or senior management. In order to reconcile these conflicts, the actuary must be equipped with not only strong communication skills, but detailed knowledge of the factors that contribute to the underwriters’ and managements’ conclusions. Broad business knowledge above and beyond expertise in actuarial methodologies is crucial.

In smaller lines of business, the actuary will face significant data challenges. Even large carriers will lean heavily on ISO-promulgated loss costs. This can lead to large price disruptions from year to year if ISO’s loss costs differ greatly from what is expected for the carrier’s own mix of business. This creates a need to validate ISO’s loss costs prior to adopting them for use in indications.

Often, even ISO’s data are drawn from exposure classes that are too heterogenous to produce an accurate rate for a given risk, so that the actuary’s filed rate change acts only as a starting point, with final prices being determined by the judgment of an underwriter working in the field. Because of the pricing leeway granted to underwriters (and sometimes agents), the actuary must be mindful of how the field will actually make use of the actuary’s rates in practice.

As a future Fellow, you’ve likely been waiting for the answer to one question in particular: What about study time? Commercial pricing work generally affords ample study time. “I have never had issues taking all of my study time. I sometimes need to move days around, but I do take all of the time I’m allotted,” writes Diana Zaidlin, ACAS, of Desjardins General Insurance. Rachel Hunter, FCAS at Liberty Mutual concurs: “When I was studying, I was able to take all allotted study time, but sometimes I would have periods where a project took more effort than expected, so study time was deferred to the next week.” The work itself, in Zaidlin’s experience, helped prepare for Exam 5 but was less helpful for others.

Both Zaidlin and Hunter stress creativity as an important personality trait for commercial pricing. Owing to the greater complexity of commercial risks (relative to personal lines risks), the scarcity of data and the heavy role that underwriter judgment plays on the commercial side, actuaries may need to explore non-standard sources of information to guide actuarial judgment and provide support to underwriters for a rate change. “If underwriters and field management are not convinced that a rate increase is appropriate for their book of business,” Hunter warns, “they may reason that the rate need is driven by another segment and apply schedule rating credits that offset the desired impact of the filed rate change.”

Check the next issue of Future Fellows for the personal lines pricing perspective in “This Actuarial Life.”

Published in the December 2015 issue of Future Fellows.