The Big Picture : Insurance Industry and Insurance Company Operations Chapter 5 & 6, Rejda (2014) “People who work for insurance companies do a lot more than sell insurance.” -- Insurance Information Institute

Global Insurance Industry in 2015 Swiss Re, Sigma, No.3/2016 In 2015 insurance companies wrote USD4,554 billion in premiums worldwide , with life insurance accounting for 55.6% and non-life for 44.4%. Life insurance recorded a 4.0% increase and non-life insurance increased by 3.6%. Around 82.4% of premiums derived from the advanced markets, where on average 8.1% of GDP or US$3,440 per capita was spent on insurance. In the emerging markets an average of just 2.9% of GDP or US$135 per capita was spent on insurance. On a global average, 6.2% of GDP goes on insurance. Worldwide average per capita insurance spending is $621.2

Total premium volume in USD in 2015 Premium volume Change (in %) Share of world (in millions of USD) nominal market 2015 Ranking Economy 2015 (in USD) (in %) 1 United States $1,316,271 3.6% 28.90% 2 Japan 449,707 -5.6 9.88 3 PR China 386,500 17.7 8.49 4 United Kingdom 320,176 -5.2 7.03 France 230,545 -14.5 5.06 Germany 254,644 -16.4 4.68 7 Italy 194,735 -15.3 3.62 8 South Korea 153,620 -3.3 3.37 9 Canada 114,968 -9.5 2.52 10 Taiwan 95,979 0.4 2.11 19 Hong Kong 45,748 11.6 1.00 24-3 3

Life insurance premium volume in USD in 2015 Premium volume Change (in %) Share of world (in millions of USD) nominal market 2015 Ranking Economy 2015 (in USD) (in %) 1 United States $552,506 4.0% 21.81% 2 Japan 343,816 -5.7 13.57 3 United Kingdom 214,492 2.4 8.47 PR China 210,763 19.1 8.32 France 150,143 -14.1 5.93 Italy 145,292 -14.1 4.93 South Korea 98,4218 -2.9 3.88 Germany 96,725 -18.4 3.83 Taiwan 79,627 0.6 3.14 India 56,675 5.6 2.24 14 Hong Kong 41,255 11.9 1.63 24-4 4

Non-life insurance premium volume in USD in 2015 Premium volume Change (in %) Share of world (in millions of USD) nominal market 2015 Ranking Economy 2015 (in USD) (in %) 1 United States $763,766 3.3% 37.81% 2 PR China 175,737 16.0 8.70 3 Germany 136,170 -14.7 6.41 4 Japan 105,891 -5.4 5.24 United Kingdom 105,685 -5.8 5.23 France 80,402 -15.3 3.98 7 Canada 65,637 2.2 3.25 8 Netherlands 62,810 -15.3 3.11 9 South Korea 55,402 -4.0 2.74 10 Italy 40,189 -18.7 1.99 15 Taiwan 16,352 -0.7 0.81 41 Hong Kong 4,494 8.2 0.22 24-5 5

Macroeconomic indicators in 2015 Ranking Economy Population GDP GDP per capita (millions) (billion USD) (thousand USD) United States 321.4 $18,089 $56.3 PR China 1,376.8 10,811 7.9 Japan 126.5 4,156 32.9 Germany 81.7 3,354 41.1 United Kingdom 65.2 2,849 43.7 France 66.3 2,422 36.5 7 India 1,313.0 2,086 1.6 8 Italy 61.1 1,814 29.7 Brazil 208.1 1,772 8.5 Canada 35.8 1,552 43.4 22 Taiwan 23.4 506 21.6 34 Hong Kong 7.3 309 42.5 24-6

Insurance density: premiums per capita in USD in 2015 Ranking Economy Total Life Non-life business business business 1 Cayman Islands $12,619 $ 514 $12,105 2 Switzerland 7,370 $4,078 $ 3,292 3 Hong Kong 6,271 5,655 616 4 Luxembourg 5,401 3,535 1,866 5 Finland 4,963 4,049 913 6 Denmark 4,914 3,513 1,401 7 Netherlands 4,763 1,051 3,712 8 United Kingdom 4,358 3,292 1,066 9 United States 4,095 1,719 2,376 10 Taiwan 4,094 3,396 698 53 PR China 281 153 128 24-7

Insurance penetration: premiums in % of GDP in 2015 Ranking Economy Total Life Non-life business business business 1 Cayman Islands 20.2% 0.8% 19.4% 2 Taiwan 19.0 15.7 3.2 3 Hong Kong 14.8 13.3 1.5 4 South Africa 14.7 12.0 2.7 5 Finland 11.9 9.7 2.2 6 South Korea 11.4 7.3 4.1 7 Japan 10.8 8.3 2.5 8 Netherlands 10.7 2.3 8.4 9 United Kingdom 10.0 7.5 2.5 10 Denmark 9.4 6.7 2.7 40 PR China 3.6 1.9 1.7 24-8

HK Insurance Business Statistics As at 30 September 2016, there were 161 authorized insurers in Hong Kong, of which 94 were pure general insurers, 48 were pure long-term insurers and the remaining 19 were composite insurers. Now In 2014, total gross premiums of Hong Kong insurance industry increased by 13.3% to HK$339.3 billion, representing about 15.04% of the Hong Kong Gross Domestic Product.

Largest HK Insurers (Life) http://www.oci.gov.hk/stat/index05_14.html L13 Total Long Term In-Force Business in 2014 Rank Name of Insurers Abbreviated Name Office Premiums Market Share   $m % 1 AIA International Limited AIA International 47,139 15.9 2 HSBC Life (International) Limited HSBC Life 46,803 15.8 3 Prudential Hong Kong Limited Prudential (HK) Life 36,108 12.2 4 China Life Insurance (Overseas) Company Limited China Life 27,393 9.3 5 Manulife (International) Limited Manulife (Int’l) 21,043 7.1 6 AXA China Region Insurance Company (Bermuda) Limited AXA China (Bermuda) 17,114 5.8 7 BOC Group Life Assurance Company Limited BOC Group Life 16,809 5.7 8 Hang Seng Insurance Company Limited Hang Seng Insurance 12,158 4.1 9 FWD Life Insurance Company (Bermuda) Limited FWD Life 10,584 3.6 10 Sun Life Hong Kong Limited  Sun Life Hong Kong 6,925 2.3 Sub-total 81.8 Others (remaining insurers) 18.2 Market Total 100.0 Life (2001) Rank Company Premium ($M) & Market Share 1 American International Assurance 10,336 (18.2%) 2 AXA China Region Insurance 6,751 (11.9%) 3 Manulife 5,980 (10.5%) 4 HSBC Life 5,607 (9.9%) 5 Prudential Assurance 3,535 (6.2%) Subtotal 32,209 (56.6%) Market Total 56,858 (100%)

Largest HK Insurers (Non-life) http://www.oci.gov.hk/download/AR2014.pdf Figure 2.16 Top 10 Insurers by Overall Gross Premiums in 2013 Ranking of Insurers Gross Premiums Market Share   $m % 1. AXA General Insurance Hong Kong Limited 3,501 8.4 2. Zurich Insurance Company 2,615 6.3 3. Bupa (Asia) Limited 2,094 5.0 4. Bank of China Group Insurance Company Limited 1,784 4.3 5. China Taiping Insurance (HK) Company Limited 1,782 6 . AIG Insurance Hong Kong Limited 1,713 4.1 7. QBE Hongkong & Shanghai Insurance Limited 1,423 3.4 8. Asia Insurance Company, Limited 1,416 9. CNOOC Insurance Limited 1,409 10. MSIG Insurance (Hong Kong) Limited 1,082 2.6 Total Gross Premiums Written by Top 10 Insurers in 2013 18,819 45.2 Corresponding Figure for 2012 16,077 40.9 24-11

Insurance Companies... … are an efficient way to participate in large pools, … thereby offering individual purchasers the risk reduction made possible by the law of large numbers. Insurers also provide value-added services such as loss control, claims processing, etc.

Overview of Private Insurance in the Financial Services Industry The financial services industry consists of: Commercial banks Savings and loan institutions Credit unions Life and health insurers Property and casualty insurers Mutual Funds Securities brokers and dealers Private and state pension funds Government-related financial institutions 13

Exhibit 5.1 Assets of Financial Services Sectors, 2010 ($billions) 14

Insurance Industry… Changes in industry structure Consolidations The number of firms has declined due to mergers and acquisitions Convergence Existing financial institutions now sell a wide variety of financial products that earlier were outside their core business area Changes in Distribution Patterns Agents compensation: commission to fee system Internet Bancassurance Changes in Forms of Coverage E-risk coverage Terrorism coverage

Types of Private Insurers Size of the insurance market, 2010 Life and health insurers: 1061 These insurers sell life and health insurance products, annuities, mutual funds, pension plans, and related financial products Property and casualty insurers: 2689 These insurers sell property and casualty insurance and related lines, including marine coverages and surety and fidelity bonds

Exhibit 5.2 Top Twenty U.S. Life/Health Insurance Groups by Revenues, 2010 ($ millions) =>Now 17

Exhibit 5.3 Top Twenty U.S. Property/ Casualty Companies by Revenues, 2010 ($millions) =>Now 18

Types of Private Insurers Stock Insurance Companies Ownership and governance: owned by stockholders Status of the policyowner: contracts are nonassessable Dominant in the property and liability industry Mutual Insurers Ownership and governance: owned by policyowners Dominant in the field of life insurance Changing corporate structure of mutual insurers because of mergers, demutualization, and formation of mutual holding companies Others: Reciprocal exchanges; Lloyd’s of London; Blue Cross and Blue Shield Plans; Health maintenance organizations (HMOs); Captive insurer; etc.

Types of Private Insurers A stock insurer is a corporation owned by stockholders Objective: earn profit for stockholders Increase value of stock Pay dividends Stockholders elect board of directors Stockholders bear all losses Insurer cannot issue an assessable policy

Types of Private Insurers A mutual insurer is a corporation owned by the policyowners Policyowners elect board of directors, who have effective management control May pay dividends to policyowners, or give a rate reduction in advance There are three main types of mutual insurers: An advance premium mutual is owned by the policyowners; there are no stockholders, and the insurer does not issue assessable policies An assessment mutual has the right to assess policyowners an additional amount if the insurer’s financial operations are unfavorable A fraternal insurer is a mutual insurer that provides life and health insurance to members of a social or religious organization

Types of Private Insurers The corporate structure of mutual insurers is changing due to: An increase in company mergers Demutualization, in which a mutual company is converted into a stock insurer by: Pure conversion Merger Bulk reinsurance The creation of mutual holding companies A holding company is a company that directly or indirectly controls an authorized insurer

Exhibit 5.4 Mutual Holding Company Illustration

Alternative Modes of Demutualization

Agents and Brokers (1/3) An agent is someone who legally represents the principal and has the authority to act on the principal's behalf Authority may be: Expressed Implied Apparent The principal is legally responsible for all acts of an agent when the agent is acting within the scope of authority

Agents and Brokers (2/3) A property and casualty agent has the power to bind the insurer A binder provides temporary insurance until the policy is actually written A life insurance agent normally does not have the authority to bind the insurer The applicant for life insurance must be approved by the insurer before the insurance becomes effective

Agents and Brokers (3/3) CUHK’s current broker: AON A broker is someone who legally represents the insured, and: solicits applications and attempts to place coverage with an appropriate insurer is paid a commission from the insurers where the business is placed does not have the authority to bind the insurer CUHK’s current broker: AON

Insurance Company Operations Rating and Ratemaking Underwriting Production Claims settlement Reinsurance Alternatives to Traditional Reinsurance Investments Other Insurance Company Functions

Rating and Ratemaking Ratemaking refers to the pricing of insurance and the calculation of insurance premiums A rate is the price per unit of insurance An exposure unit is the unit of measurement used in insurance pricing Total premiums charged must be adequate for paying all claims and expenses during the policy period

Rating and Ratemaking Rates and premiums are determined by an actuary, using the company’s past loss experience and industry statistics Portrayal of actuaries as math–obsessed, socially disconnected individuals with shockingly bad comb–over 97.28892 percent incorrect SoA News Release Actuary in the Future Actuaries also determine the adequacy of loss reserves, allocate expenses, and compile statistics for company management and state regulatory officials.

Underwriting Underwriting refers to the process of selecting, classifying, and pricing applicants for insurance A statement of underwriting policy establishes policies that are consistent with the company’s objectives The underwriting policy is stated in an underwriting guide, which specifies: Acceptable, borderline, and prohibited classes of business Amounts of insurance that can be written Territories to be developed Forms and rating plans to be used Business that requires approval by a senior underwriter

Underwriting Principles The basic principles of underwriting include: Attain an underwriting profit Select prospective insureds according to the company’s underwriting standards Reduce adverse selection against the insurer Adverse selection is the tendency of people with a higher-than-average chance of loss to seek insurance at standard rates. If not controlled by underwriting, this will result in higher-than-expected loss levels. Provide equity among the policyholders One group of policyholders should not unduly subsidize another group

Steps in Underwriting Underwriting starts with the agent Information for underwriting comes from: The application The agent’s report An inspection report Physical inspection A physical examination and attending physician’s report MIB report (Cf. HK’s MIB report)

Steps in Underwriting After reviewing the information, the underwriter can: Accept the application and recommend that the policy be issued Accept the application subject to restrictions or modifications Reject the application Many insurers now use computerized underwriting for certain personal lines of insurance that can be standardized

Underwriting Considerations Other factors considered in underwriting include: Rate adequacy Availability of reinsurance Whether policy can or should be cancelled or renewed

Production Production refers to the sales and marketing activities of insurers Agents are often referred to as producers Life insurers have an agency or sales department Property and liability insurers have marketing departments The marketing of insurance has been characterized by a trend toward professionalism An agent should be a competent professional with a high degree of technical knowledge in a particular area of insurance and who also places the needs of his or her clients first

Production Several organizations have developed professional designation programs for insurance personnel: The American College: CLU, ChFC The American Institute for Chartered Property and Casualty Underwriters: AICPCU Certified Financial Planner Board of Standards, Inc.: CFP National Alliance for Insurance Education & Research: CIC

Claim Settlement (… ICCB) The objectives of claims settlement include: Verification of a covered loss Fair and prompt payment of claims Personal assistance to the insured Some laws prohibit unfair claims practices, such as: Refusing to pay claims without conducting a reasonable investigation Not attempting to provide prompt, fair, and equitable settlements Offering lower settlements to compel insureds to institute lawsuits to recover amounts due

Types of Claims Adjustors Major types of claims adjustors include: An insurance agent often has authority to settle small first-party claims up to some limit A company adjustor is usually a salaried employee who will investigate a claim, determine the amount of loss, and arrange for payment. An independent adjustor is an organization or individual that adjusts claims for a fee A public adjustor represents the insured and is paid a fee based on the amount of the claim settlement

Steps in Claim Settlement The claim process begins with a notice of loss, typically immediately or as soon as possible after a loss has occurred. Next, the claim is investigated An adjustor must determine that a covered loss has occurred and determine the amount of the loss The adjustor may require a proof of loss before the claim is paid The adjustor decides if the claim should be paid or denied Policy provisions address how disputes may be resolved Claims adjustors as detectives?

Reinsurance Reinsurance is an arrangement by which the primary insurer that initially writes the insurance transfers to another insurer part or all of the potential losses associated with such insurance The primary insurer is the ceding company The insurer that accepts the insurance from the ceding company is the reinsurer The retention limit is the amount of insurance retained by the ceding company The amount of insurance ceded to the reinsurer is known as a cession

Reinsurance Reinsurance is used to: Increase underwriting capacity Stabilize profits Reduce the unearned premium reserve, which represents the unearned portion of gross premiums on all outstanding policies at the time of valuation Provide protection against a catastrophic loss Retire from business or from a line of insurance or territory Obtain underwriting advice on a line for which the insurer has little experience

Alternatives to Traditional Reinsurance Some insurers use the capital markets as an alternative to traditional reinsurance Securitization of risk means that an insurable risk is transferred to the capital markets through the creation of a financial instrument, such as a catastrophe bond or futures contract Catastrophe bonds are corporate bonds that permit the issuer of the bond to skip or reduce the interest payments if a catastrophic loss occurs Catastrophe bonds are growing in importance and are now considered by many to be a standard supplement to traditional reinsurance.

Investments Because premiums are paid in advance, they can be invested until needed to pay claims and expenses Investment income is extremely important in reducing the cost of insurance to policyowners and offsetting unfavorable underwriting experience Life insurance contracts are long-term; thus, safety of principal is a primary consideration In contrast to life insurance, property insurance contracts are short-term in nature, and claim payments can vary widely depending on catastrophic losses, inflation, medical costs, etc

Exhibit 6.1 Growth of Life Insurers’ Assets

Exhibit 6.2 Asset Distribution of Life Insurers, 2010 ($5.3 trillion)

Exhibit 6. 3 Investments, Property/Casualty Insurers, 2010 ($1 Exhibit 6.3 Investments, Property/Casualty Insurers, 2010 ($1.32 trillion)

Other Insurance Company Functions Information systems are extremely important in the daily operations of insurers. Computers are widely used in many areas, including policy processing, simulation studies, market analysis, and policyholder services. The accounting department prepares financial statements and develops budgets In the legal department, attorneys are used in advanced underwriting and estate planning Property and liability insurers also provide many loss control services

The lighter side of insurance... Suppose you are a personnel manager of an insurance company. Does your organization struggle with the problem of properly fitting people to jobs?? Here is a handy hint for ensuring success in job placement... Take the prospective employees you are trying to place and put them in a room with only a table and two chairs. Leave them alone for two hours, without any instruction. At the end of that time, go back and see what they are doing.

Insurance Job Placement... If they have taken the table apart in that time, put them in Loss Control. If they are counting the butts in the ashtray, assign them to Finance. If they are screaming and waving their arms, send them to Claims. If they are talking to the chairs, Personnel may be a good spot for them. If they are sleeping, they are Management material.

Insurance Job Placement... If they are writing up the experience, send them to Underwriting. If they don’t even look up when you enter the room, assign them to Risk Management. If they try to tell you it's not as bad as it looks, send them to Marketing. And......if they’ve left early, put them in Sales. ACTUARIAL JOKES (?!) http://www.actuarialjokes.com