1. 1 CLRS Basic Track I Basic Track I 1998 CLRS September 28, 1998 Philadelphia, Pennsylvania

2. 2 CLRS Basic Track I Introduction l Topics Covered »CAS Statement of Principles –Definitions –Principles –Considerations »Data Needs and Organization »Basic Reserving Techniques –Paid Loss Development Method –Incurred Loss Development Method

3. 3 CLRS Basic Track I Statement of Principles l CAS Statement of Principles Regarding Property & Casualty Loss & Loss Adjustment Expense Reserves »3 Sections »Adopted May 1988 »Actuary should also be familar with standards of practice.

4. 4 CLRS Basic Track I l LOSS RESERVE Definition: Amount necessary to settle unpaid claims Characteristic: Estimated liability Importance: Accurate evaluation of financial condition & underwriting income Definitions

5. 5 CLRS Basic Track I Definitions l Accounting Aspects of Loss Reserves Assets Liabilities Surplus Balance Sheet

6. 6 CLRS Basic Track I Definitions l Carried Loss Reserve The amount shown in a published statement or an internal statement of financial considition. l Indicated Loss Reserve The amount that results from the application of a particular loss reserving method.

7. 7 CLRS Basic Track I Definitions l Loss Adjustment Expenses (LAE) are sum of: »Allocated Loss Adjustment Expenses (ALAE) –Defense, litigation and medical cost containment expenses. Does not include claims adjusters fees. »Unallocated Loss Adjustment Expenses (ULAE) –All expenses not included above, including claims adjusters fee, and company overhead.

8. 8 CLRS Basic Track I Definitions l Prior to 1998 the NAIC considered as ALAE all expenses that could be allocated to an individual claim. This could include adjusters fees. This led to inconsistencies between insurers.

9. 9 CLRS Basic Track I Definitions l Elements of a Loss Reserve »IBNR »Claims in Transit »Formula Reserve/Case Reserve »Development on Known Claims »Reopened Claims Reserve

10. 10 CLRS Basic Track I Life Cycle of a Claim Reserve 8/1/96 Accident entered into records as $1,000 Formula Reserve 7/11/96 Accident reported Claims in Transit 10/5/96 Individual reserve established $10,000 Case Reserve 1/1/97 Estimate revised $25,000 Case Reserve 8/18/97 Settlement agreed $30,000 Case Reserve 8/25/97 Payment sent $30,000 Case Reserve 9/2/97 Claim draft clears Closed 4/2/96 Accident occurs Pure IBNR

11. 11 CLRS Basic Track I Four Guiding Principles Principle 1: Actuarially Sound Loss Reserves A provision for the unpaid amount required to settle all claims, whether reported or not, for which liability may exist on a particular accounting date.

12. 12 CLRS Basic Track I Four Guiding Principles Principle 2: Actuarially Sound LAE Reserve A provision for the unpaid amount required to investigate, defend and effect the settlement of all claims, whether reported or not, for which LAE liability exists on a particular accounting date.

13. 13 CLRS Basic Track I Four Guiding Principles Principle 3: Uncertainty Inherent in Reserves Implies that a range of reserves can be actuarially sound. Exists because true value of the liability for loss or LAE at any accounting date can be known only when all attendant claims have been settled.

14. 14 CLRS Basic Track I Four Guiding Principles Principle 4: Most appropriate reserve within a range of actuarially sound estimates Depends on: –the relative likelihood of estimates within the range –financial reporting context in which the reserve will be presented

15. 15 CLRS Basic Track I Principles l “Actuarially Sound” Characteristics »For a defined group of claims »As of a given valuation date »Based on estimates derived from reasonable assumptions & appropriate actuarial methods l Guiding principles apply to »statutory balance sheets »statements of opinion »reports to shareholders or securities regulators

16. 16 CLRS Basic Track I Considerations: Data Organization l Accident Date »The date on which the loss occurred. l Report Date »The date on which the loss is first reported to the insurer. l Recorded Date »The date on which the loss is first entered into the statistical records of the insurer.

17. 17 CLRS Basic Track I Considerations: Data Organization l Accounting Date »Defines a group of claims for which liability may exist. »All claims incurred on or before the accounting date. l Valuation Date »Defines the time period for which transactions are included when evaluating the existing liability.

18. 18 CLRS Basic Track I l Accuracy is often improved by subdividing experience into groups exhibiting similar characteristics. Considerations: Homogeneity Automobile Bodily Injury Property Damage PIP Medical Payments UM-BI UM-PD Collision Other Than Collision Liability Physical Damage

19. 19 CLRS Basic Track I Considerations: Credibility l A measure of the predictive value that is attached to a body of data. l A group of claims should be large enough to be statistically reliable. »May be a point at which partitioning will divide the data into groups too small to provide credible development patterns. l Use of supplementary data sources

20. 20 CLRS Basic Track I Considerations: Emergence Patterns l The delay between the occurrence of a claim & when it is recorded on the company’s books. »Property claims reported quickly »Reporting of liability claims is substantially delayed

21. 21 CLRS Basic Track I Considerations: Settlement Patterns l The length of time that it normally takes for reported claims to be settled (or closed) l Affects the choice of reserving methods »Lines which settle quickly, generally are less subject to reserve uncertainty. »The amount of settlement often varies considerably from the original estimate

22. 22 CLRS Basic Track I Considerations: Emergence/Settlemen t l Emergence (E) vs. settlement (S) A E S AE S Products Liability Workers Compensation Automobile Bodily Injury A AE S E S Collision

23. 23 CLRS Basic Track I Other Considerations l Factors Affecting Loss Reserves »Internal or Operational –Reinsurance programs –Claims handling practices –Business growth –Case reserve adequacy –Mix of business –Underwriting –Organizational changes –Contract changes –Structured settlements –Portfolio characteristics

24. 24 CLRS Basic Track I Other Considerations l Factors Affecting Loss Reserves »External or Environmental –Society –Regulation –Judiciary –Seasonality –Residual Market –Inflation –Economy

25. 25 CLRS Basic Track I Terminology l Case Reserves »Claim reported but not yet paid »Assigned a value by a claims adjuster or by formula l Bulk + IBNR reserves include: »Reserves for claims not yet reported (pure IBNR) »Claims in transit »Development on known claims »Reserves for reopened claims

26. 26 CLRS Basic Track I Terminology l Reserves = Outstanding = Liabilities = Unpaid = Case Reserves +IBNR l Incurred losses may have various meanings! Ù Ultimate Losses (incl. IBNR) Ù Reported Losses (excl. IBNR)

27. 27 CLRS Basic Track I Definitions l Loss Development The financial activity on claims from the time they occur to the time they are ….eventually settled and paid. l Triangles Compiled to measure the changes in cumulative claim activity over time in order to estimate patterns of future activity.

28. 28 CLRS Basic Track I Paid Loss Development Method (LDM) l The losses are sorted by the year in which the accident occurred l The losses are summed at the end of each year l Losses paid to date are shown on the most recent diagonal l The data are organized in this way to highlight historical patterns

29. 29 CLRS Basic Track I Paid LDM: Compilation of Triangle l Actuarial Configuration l The goal is to estimate the total amount that will ultimately be paid

30. 30 CLRS Basic Track I Paid RTR Development Factors From the end of the accident year (at 12 months) to the end of the following year (at 24 months), paid losses for 1993 accident-year grew 79%. During the next year (from 24 to 36 months), paid losses experienced an additional 24% growth (or development) and so forth. Report-to-report development (RTR) factors are also known as: Age -to-Age factors Link ratios

31. 31 CLRS Basic Track I Paid LDM: RTR Factors

32. 32 CLRS Basic Track I Paid LDM: Issues to Consider Issues to Consider Have there been any changes which might make the older years irrelevant? Are the more recent years better predictors of the future? Are there outlier points that need to be ignored or adjusted? Examples There are more motorcycle losses in the oldest year; Typical P&C no longer insures motorcycles. Typical P&C has begun writing more business in state X. In one year, there were bad ice storms at the end of December. Late reporting caused unusually high development in the next year.

33. 33 CLRS Basic Track I Paid LDM: Application !

34. 34 CLRS Basic Track I Paid LDM: Projections & Reserves l Loss Reserve Estimate @ 12/31/97 = $32.307 million

35. 35 CLRS Basic Track I Incurred LDM: Compilation of Triangle

36. 36 CLRS Basic Track I Incurred LDM: RTR Factors Selected

37. 37 CLRS Basic Track I Incurred LDM: Projections & Reserves