Loss Reserving Anatomy of a claim 12/15/99 Auto accident 12/20/99 Insured reports accident to agent 1/7/00 Claim recorded 2/3/00 $10,000 reserve set 1/8/01 Pay $3000 medical expenses; offer $15,000 settlement; $15,000 reserve set 7/2/01 Offer refused 9/8/01 Lawsuit files 4/1/02 $20,000 reserve 1/6/03 $40,000 reserve 10/6/04 Court awards $32,000 Incurred loss development Accident Year IBNR 2000$10, $18, $23, $43, $32,000

Definitions Individual claim file estimates Paid loss development Considers only loss payments Paid loss development factors Incurred loss development Paid plus case reserves Incurred loss development factors Loss adjustment expenses Allocated Unallocated

Loss reserve methods Unsophisticated methods: Case reserve plus Expected loss ratio method More accurate methods: Chain ladder or loss development triangle method Bornhuetter-Ferguson method Frequency and severity estimates

Cumulative Loss Payments Accident Development Age (Months) Year Assume that no further losses are paid after 96 months.

Paid Loss Development Factors Accident Link Factors Year Ave Age Ultimate

Estimated Loss Reserves Based on Average Paid Loss Development Factors Age to Accident Paid to UltimateUltimateLoss Year DateFactorLossesReserve Total

Expected Loss Ratio Method Estimated Ultimate Losses = Expected Loss Ratio x Earned Premium Estimated Loss Reserve = Estimated Ultimate Losses - Losses Paid to Date Example 2004 Earned Premium = 65,000 Expected Loss Ratio = 60% Estimated Ultimate Losses = 39,000 Losses Paid to Date = 15,162 Estimated Loss Reserve23,838

Bornhuetter-Ferguson Method 2004 Accident Year Estimated Loss Reserve = Total Expected Losses x % of Losses to Be Paid in Future % of Losses to Be Paid in Future = 1-(1/Age-Ultimate Factor) Example: 12 Month-Ultimate = % of Losses Paid After 12 Months = 1-1/2.779=.640 Total Expected Losses = 65,000 x.60=39,000 Estimated Loss Reserve = 39,000 x.640 = 24,960

Results of Different Loss Reserve Methods – Accident Year 2004 Paid Loss Development26,973 Expected Loss Ratio23,838 Bornhuetter-Ferguson24,960

Frequency and Severity Estimates Calculate Incurred Claim Counts Determine Loss Frequency = # Claims/Exposure Determine Average Payment per Claim or Average Incurred Loss per Claim (Severity) Trend Frequency and Severity Separately Combine to Determine Ultimate Incurred Losses

Incurred Loss Development Similar to paid loss development, but includes case loss reserves

Additional Reserving Requirements Loss Adjustment Expense Allocated Sometimes included with losses Unallocated