Non Life Insurance risk management in

the Insurance company : CSOB case

studies
Content

Topics : Non Life Insurance risk management,

case study

1. Non Life Insurance

2. Case study Example of non life insurance product MTPL, Domos
and Business
3. Definition of Non Life insurance risks
4. Case study Health insurance as part of Non life risks
5. Non Life product Cash flows
6. Insurance Risk management process, Risk Limit definition
7. Case Study. Risk management for Non life insurance

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 Objectives

Familiarize yourself with the basics of:

Non Life insurance products
Non Life insurance risk definition
Non Life risk managements

Case studies

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Insurance technical (underwriting) risk

Insurance activities are split up into 3 main categories

Life insurance Insured object is physical person life status.

Non-life insurance Insured objects are property, cars, and liability ect.

Health risks Covers common risk in Life and Non life insurance like insurance of
accident or health of physical persons. But it is about the physical person health
status.

Health insurance is new arising from Solvency II regulation / new EU Insurance

law valid since 1.1.2016.

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 Line of business for Non life insurance

Liabilities of the insurance company must be segmented into homogenous risk

groups and those are grouped into the classes of insurance. The classes are
defined by Solvency II.
LOB Nonlife insurance classes
no.
4 MTPL
5 Other motor vehicles insurance
6 Marine, aviation transport
7 Property damage insurance
8 General liability insurance
9 Credit and Suretyship insurance
10 Legal assistance insurance
11 Assistance insurance
12 Miscellaneous financial loss insurance

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Liability segmentation health insurance

LOB Health insurance similar to

no. nonlife insurance classes

1 Medical costs insurance

Similar to non life
2 Income protection insurance
(non SLT)
3 Workers compensation ins.
29 Health insurance similar to life
insurance Similar to life insurance
(SLT)
33 Annuities arising from bodily injury

Example: accident insurance

Insurance is sold as a rider to
Life product permanent disability, accidental death, riders to
bank card insurance, permanent disability for children, daily
compensation in case of injury, accident insurance with MTPL for
free, etc.
all of it is LOB 2. 6
Case Study 1

Examples of Non Life insurance product,

categorisation to Line of Business

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 Liabilities segmentation nonlife

Liabilities of the insurance company must be segmented into homogenous risk

groups and those are grouped into the classes of insurance. The classes are
defined by Solvency II.
LOB Nonlife insurance classes Example: household
no. insurance - Domos
4 MTPL One policy often includes risk
5 Other motor vehicles insurance of property insurance as well
as general liability.
6 Marine, aviation transport
Liabilities that will occur from
7 Property damage insurance
these insurance policies,
8 General liability insurance must be allocated in the LOB
7 and LOB 8.
9 Credit and Suretyship insurance
10 Legal assistance insurance
11 Assistance insurance
12 Miscellaneous financial loss insurance

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Examples of non life insurance product

Motor Third Party Liability - MTPL (PZP)

Insurance period: Usually 1 year, but possible more

Insured event: Liability arising from use of motor vehicle
Insurance benefit: Material damage: damage on other cars or property
caused by insured car
Health damage: health and annuity claims

Car insurance - CASCO

Insurance period: Usually 1 year, but possible more

Insured event: Damage on insured car
Insurance benefit: Repayment of repair cost of insured car

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Examples of non life insurance product

House/Flat and household insurance (Domos)

Insurance period: Usually 1 year, but possible more

Insured event: 1. Losses on insured house/flat and household
2. Liability arising from ownership of house/flat
Insurance benefit: 1. Repayment of repair cost in case of natural
catastrophe (e.g. flood, wind) or man-made
catastrophe (e.g. fire, vandalism) depends on
insured risks
2. Liability claim from house/household ownership e.g.
losses caused to neighbors in case of water pipes
damage
Insurance for Small and medium enterprises (SME)

Insurance period: Usually 1 year, but possible more

Insured event: 1. Losses on insured property
2. Any third party liability
3. Business interruption insurance
4. Transport insurance

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Liabilities estimates in nonlife insurance

The best estimate liabilities

The best liabilities estimate is
the present value of future financial flows

Post claim reserve Pre claim reserve

Valuation day
Post Claim Reserve Pre Claim Reserve (from premium)
Reserve for losses that Reserve for losses that occurred after the
occurred before the valuation day and are related to the
valuation day. insurance policies that cannot be
canceled anymore on the valuation date.

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 Post Claim reserve data history claim triangle

Triangle of paid claims: paid claim in development year j for occurence year i
Triangle of incurred claims: paid claims + all reserved claim

Post claim cash-flows: project the future claim payments (green part) and
claim settlement expanses
Use actuarial techniques to create the model, that determined ultimate
expected loss and also expencted spread 12over time - cashflows
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 Post claim non life reserves
Year Premium Paid Costs Cash Discount curve
claims Flow 2,50%

2,00%
1 0 -200 -35 -235
2 0 -100 -16 -116 1,50%

3 0 -35 -3 -33 1,00%

4 0 -10 -1 -11 0,50%

5 0 -1 -1 0,00%
1 2 3 4 5

Cash flow Total sum of Cash flows is -396 Eur

Discounting reserve.
Taking into the account the time value of
money expressed by the discount curve,
then the expected value of future cash
1 2 3 4 5 flows is the sum of discounted values in
the year 0.
Year
Best estimate liability is - 380 Eur
reserve.
It is expected value.
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 Post claim NL reserves 1 year later

Year Premium Paid Costs Cash Discount curve

claims Flow 2,50%

2,00%

2 0 -110 -20 -130 1,50%

3 0 -47 -3 -50 1,00%

4 0 -10 -1 -11 0,50%

5 0 -1 -1 0,00%
1 2 3 4 5

Cash flow Total sum of Cash flows is -135 Eur

Discounting reserve.
Origi Taking into the account the time value of
nally money expressed by the discount curve,
Real exp. then the expected value of future cash
1 1 2 3 4 5 flows is the sum of discounted values in
the year 0.
Year
Best estimate liability is - 121 Eur
reserve.
It is expected value.
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 Preclaim reserves

Is defined as present value of expected probability weighted average of future

cashflows
Expected future claims
Expected future expenses
Expected future commission
Minus expected premium

It includes the laspe ratio

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 Market value of liabilities

How to estimate the Market Value of liabilities?

The cash flow is estimated sequence of incomes or costs from the insurance
policy since coming in force.
It is based on the expected present value of future cash flows. It represents
the probability-weighted average of all expected incomes and outcomes with
including the time value of money.
It contains the pricing of traded options (lapse) and guaranties (interest rate)..

An example of cash flows: Actuary model:

Model
Incomes :
Policy data (premium,
+ future premium
risk, age, sum insured...)
+ recourses from claims
Parameters for the model
+ reinsurer payments
(cancellation rate, costs,
Costs: inflation...)
- expected claims
- expected costs
- commissions
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Definition of Non Life insurance risks

Categorization of Non Life Insurance Risks

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Positioning of Non Life Insurance risk
within the risk universe

CSOB INSURANCE RISK UNIVERSE

Focus in the presentation is on Non Life Insurance

risk which is part of Technical Insurance risk

Do you know example example of Non Life

risk in products?

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 Influence of risk on Solvency low tariffs

Example no. 1: The insurance company A and B have the same portfolio
of insurance policies 100 ths. vehicles.
The insurance company A offers very low tariffs that are its
competitive advantage.
The insurance company B makes business with higher prudence
therefore has higher tariffs.

How will the strategies of both companies be reflected in the capital

requirements in solvency I regime and in risk profile?

Note: The example is simplified, as it does not reflect possible differences in the
policy of creation of technical reserves, amount of costs and the way of
underwriting the risk.

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 Influence of risk on Solvency low tariffs

Insurance co. A Insurance co. B

Total premium 10 000 000 12 000 000

(5% profitability) (21% profitability)
Capital requirement Solvency I 18% * 10 000 000 = 18% * 12 000 000 =
1 800 000 2 160 000
Capital requirement Solvency II 4 100 000 4 100 000
Created own resources / Profit 500 000 2 500 000
Return of Capital SI 27,7% 115,7%
Return of Capital SII (RoC) 12,1% 60,9%

Under Solvency I, the company A has the lower capital requirement. It creates less own
resources (profit) and therefore has lower ability to survive unexpected negative events
(e.g. worse loss ratio).

Under Solvency II, the capital req. of both companies are the same. The
company A doesn't have an advantage towards the company B.

The company B creates more own resources and has higher return of capital.
It has higher ability to survive unexpected events.
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 Risk categories
Non Life Insurance risk

KBC definition for Technical Insurance

and Pension Claim risk:
The potential negative deviation from the
expected value of an insurance contract or
pension claim (or a portfolio thereof).
Morbidity
risk

Lapse risk Reserve risk Catastrophe

risk

Premium risk Revision risk Expense risk

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 Non Life Insurance risks common for all insurance

Premium risk :the risk that the premium that will be earned will not
suffice to cover liabilities and expenses resulting from claims
Reserve risk: the risk that liabilities stemming from claims that have
occurred in the past, but that are not yet fully settled, will turn out to be
higher than expected.
Catastrophe risk: The risk that a single damaging event, or series of
correlated events, of major magnitude, usually over a well-defined short-
time period leads to a significant deviation in actual claims from the total
expected claims

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 Other Life Insurance risks related to long term nature

Lapse risk: The potential negative deviation from the expected value due to
unexpected changes in policy lapses.
It covers premature termination of both contracts with and without
surrender value and hence also includes surrender risk, policy lapses, paid
up, ect. (premature termination).
Note that the term surrender risk refers specifically to contracts with
surrender value.

Expense risk: The potential negative deviation from the expected value of
due to a potential increase in expenses (sometimes also referred to as
cost-related risk), the risk that assumptions about acquisition and
administration costs turn out to be too optimistic,
Revision risk: The potential negative deviation from the expected value of
due to unexpected revisions of claims. Only to be applied on annuities
where the amount of the annuity may be revised during the next year.

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Overview of catastrophe risks

natural catastrophe risks

windstorm
flood
earthquake
hail
man made catastrophe risks
MTPL (Motor Third Party Liability)
Marine
Aviation
Fire
Liability
Credit & Surety ship

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Need to introduce a common risk language

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 Insurance company simplified balance sheet
Balance sheet
ASSETS LIABILITIES

Cash Capital
Shareholders capital
Reserve fund

Government bonds Asset revaluation reserve

Slovak Government
German Government
Other EU governments
Corporate bonds
Financial insitutions EU
Other companies EU, outside EU...
Revaluation of AFS portfolios
Life traditional reserves
Life insurance reserves
Claim reserves RBNS, IBNR
Unused premium reserves

Unit Linked investments Life Unit Linked reserves

divided per UL asset fund Number of unit x value of units
Value of other parts of reserves

Shares and participations Non Life reserves

Claim reserves RBNS, IBNR
Unused premium reserves

Property
Other

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Case Study 2

Limit definition for non life insurance risk

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 Key risk indicators

1. Capital Adequacy achieve the adequate available capital

2. Performance maximalisation of return within risk playing field, avoid risk concentration in
profit generation and dependency on one product or distribution channel

3. Liquidity and Concentration risk hold sufficiently liquid assets with aim to be able to pay
unexpected shock in portfolio

4. Asset And Liability Management Risk (ALM) - create sufficient matching of asset and liability
cash-flow with aim to minimize the capital
5. Insurance underwriting and reserving risk generate sufficient profit by selling profitable
products and adequate underwriting of insurance risks

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 Key risk indicators

1. Capital Adequacy achieve the adequate available capital = solvency ratio

2. Performance maximalisation of return within risk playing field, avoid risk concentration in
profit generation and dependency on one product or distribution channel = ROE

3. Liquidity and Concentration risk hold sufficiently liquid assets with aim to be able to pay
unexpected shock in portfolio = investment limits, concentration limits

4. Asset And Liability Management Risk (ALM) - create sufficient matching of asset and liability
cash-flow with aim to minimize the capital = Liability coverage ratio, BPV
5. Insurance underwriting and reserving risk generate sufficient profit by selling profitable
products and adequate underwriting of insurance risks = postive profit margin for new business
Value New Business (VNB)/ PV Premium
- Combined ratio

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 Definition of combined ratio

Combined ratio measures the technical profitability of product.

It indicates how well the company is performing in its operations.

A ratio below 100% indicates that the company is making profit while a ratio above
100% means that we are paying out more (losses, expenses) than we are receiving
from premiums.

Combined ratio = Loss ratio + Commission ratio + Expense ratio

Parts of combined ratio:

1. Loss ratio measures the paid claims against earned premium

2. Commission ratio measures the amount of commissions against earned
premium
3. Expense ratio measures the company expenses against earned premium.

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 Example of combined ratio

Example of companys combined ratio report

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 Premium adequacy of nonlife contract
Contract duration

1.1 Valuation date 31.12 Contract boundary

When calculating premium adequacy of nonlife portfolio at the valuation date for
year Y :
1. Post claim cash flows
- Present value of cash flows of paid claims and claim handling expenses for
claim which incurred up to valuation date
2. Pre claim cash flows
- Present value of cash flows of claims which will incur on insurance contracts
after valuation date up to contract boundary.
3. Expenses which will incur from valuation date up to contract boundary

If sum of these three components > unearned premium than premium is

inadequate.
If sum of these three components < unearned premium than premium is
Adequate.

Solid estimation of premium adequacy is combined ratio.

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 Premium adequacy of nonlife contract
Mon Premium Future Future Post We are 7th months of the
th claims Costs claim CF contract
1 316 -90 -250 -235
2 316 -90 -200 -116 Monthly paid contract.
3 316 -90 -150 -33
Monthly premium 316 Eur
4 316 -90 -100 -11
5 316 -90 -1

Reserve for incurred claims (post claim) = 396 Eur. Company expects it will pay
396 euro for already incurred claims.

Future claims = 450 Eur Company expects they will pay 450 Eur on claims which
will incure in the future

Future costs = 700 Eur Company expects they will further 700 Eur on their own
expense

37 Eur left from last 5 months + 52 Eur from past months.

Company profit is 52 + 37 = 89 Eur. 34
Calculate profit margin?

Task:

Profit margin = 39/949 = 4.1%

Is it OK or NOT OK?

How will be defined the risk limit?

It should be known that based on actual and also new Insurance ACT
selling of life insurance products with negative profit margin is not
compliant with regulation.

Negative profit margin expressed this way means inadequacy of

the life insurance premium.

Current legislation requires to have adequate premium per Line of

business - 6 +2 categories.

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Non Life Insurance risk identification

Premium risk higher large claims might occur in future, premium is

Reserve risk reserves are not adequate and need to be increased as

future claims are higher then expected/ reality is different

Expense Risk expenses overtime will increase with inflation, not all
expanses were included into product pricing

Lapse Risk contract terminates sooner and company will loose the future
profits, but also is not able to cover fixed costs

Market risk interest rates decrease not sufficient PL contribution

Credit risk our major reinsurer will get bankrupt,

Catastrophic risk floods in to Slovakia, dam of river Vah is broken

- earthquake in Komarno
- explosion in Slovnaft
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 When is the insurance company solvent?

In insurance business, the required amount of own resources is defined by

the law and it is called capital requirement.

Balance sheet The insurance company is solvent, if its own resources

Free achieve the amount of the capital requirement. The
resources insurance company is able to cover the loss that equals
resources the amount of this capital requirement without threatening
Own Capital its stability.
requirement
If the amount of own resources drops below the value of
Account the capital requirement, it is in danger of receivership,
ing eventually loss of the insurance license.
value of
assets Technical Solvency rate of the insurance company =
reserves Own resources / Capital requirement
Return on Capital
= Profit / Capital requirement

Assets Liabilities
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Capital tree in Solvency II
Capital requirement SCR
=>SCR: P&L impact of new
business and portfolio with 99.5%
probability level

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Capital tree in Solvency II

SCR NON-LIFE

SCR SCR
PREM & RES CAT

SCR SCR SCR SCR SCR MAN SCR

MTPL CASCO FIRE GTPL MADE CAT NATCAT

SCR MTPL SCR CASCO SCR FIRE SCR GTPL SCR MM SCR
RES RES RES RES MTPL WINDSTORM

SCR MTPL SCR CASCO SCR FIRE SCR GTPL SCR MM

SCR FLOOD
PREM PREM PREM PREM FIRE

SCR MM SCR
LIABILITY EARTHQUAKE

SCR
HAIL
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 Zoom in for SCR reserve risk
SCR NON-LIFE

SCR SCR
PREM & RES CAT

SCR
MTPL
SCR
CASCO
SCR
FIRE
SCR
GTPL SCR ASSISTANCE
SCR MAN MADE
CAT
SCR
NATCAT

SCR FIRE SCR GTPL SCR ASSISTANCE SCR MM

SCR MTPL RES SCR CASCO RES SCR WINDSTORM
RES RES RES MTPL

SCR FIRE SCR GTPL SCR ASSISTANCE SCR MM

SCR MTPL PREM SCR CASCO PREM SCR FLOOD
PREM PREM PREM MARINE

SCR Reserve risk= Reserve risk Sigma res SCR MM SCR

AVIATION EARTHQUAKE
Motor vehicle liability 9,5%
3 * sigma * BE reserva (LoB) Motor, other classes 10,0%
SCR MM SCR
Marine, aviation, transport (MAT) 14,0%
FIRE HAIL
Plus diversification Fire and other property damage 11,0%
Third-party liability 11,0%
SCR MM
Credit and suretyship 19,0% LIABILITY
Legal expenses 9,0%
Assistance 11,0%
SCR MM CREDIT
& SURETTYSHIP

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 vod do Solventnosti II

EIOPA poaduje celistv systm, ktor transformuje vstupn dta o poistnch

zmluvch na predpokladan vvoj zisku poisovne a jeho distribunej funkcie -
aktursky model.
Intern model je viac ako mechanick proces. Mus ma v sebe zahrnut spsob,
ktorm je aktursky model integrovan so internho systmu riadenia rizk
poisovne.
Aktursky model me by pouit na odvodenie kapitlovch poiadaviek
41 41spolonos akturov | SOB poisova
Slovensk
04 December
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 conclusion

Insurance risks are very complex

Influences many items in balance sheet of insurance company
Due to long term nature of liabilities pricing assumption will change on 100%
There is difficult to satisfy all criteria, many of them are in conflict
Choices need to be made by management

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