Pricing of insurance products in a pandemic

Insurers are waiting with bated breath to see how their liabilities will pan out in the face of Covid-19. We covered the impact on reserving here and treating customers fairly here. In an ideal world, changes to reserving should trigger a feedback loop to pricing. This prompts the question:

What does Covid-19 do to the world of pricing of insurance contracts?

Fundamentally, the question is whether the pricing of the insurer’s products remain sufficient to achieve the insurer’s objectives. There are numerous things to consider here, and, unsurprisingly, not all are straightforward – below are a few of them. We will cover the considerations for reinsurance pricing, capital charges and business plans in future blog posts.

Things to do

Did you get the terms and conditions right?

The most contentious issue right now is the interpretation of policy wording.  The first thing to consider is whether terms and conditions permit pandemic claims, for example in a health or business interruption setting. We can then determine if the current pricing model reflects the risk taken on. A tightening of terms and conditions may be necessary to avoid unintended potential future losses, especially where policy wording is ambiguous. This has the added benefit that the pricing model may not need changing if ambiguities were not priced for previously.

Does the model fit the exposure?

Where pandemics are covered (whether by design or otherwise), and continue to be covered, then the question becomes whether the technical premium is appropriate. For example, we could consider if the data used to calibrate the model contains anything similar to the Covid-19 situation. For Accident & Health type claims, any exposure to the SARs or MERS epidemic may give some clue to the frequency (MERS) and severity (SARS) of claims. For aviation insurance and travel policies, giving more weight to data relating to 9/11 or the Eyjafjallaj?kull volcanic eruption might allow insurers to work out a justifiable price to charge for the current scenario.

How fast can you deploy a price change?

Speed will be of the essence as it may take a while to deploy a new pricing calibration to existing technical raters. Premiums may be mis-stated while the new pricing is being implemented. To address this, a temporary measure such as loading or discounting the final price may be a practical way to adjust premiums while the deployment takes place.

Do you need to change the price now?

It is also worth considering if the underlying exposure has changed – and how insurers will want to reflect this in premiums (or maybe even refund premiums). For example, commuters who drive to work but who are now working from home are less exposed to accidents. At the time of writing, one UK motor insurer has already begun refunding motor customers with others considering a similar move. This will be valuable to policyholders who may themselves be in need of cash. Conversely, key workers may be driving more, because of the lack of available transportation, increasing exposure. Here, the insurer will need to apply their discretion and treat their customers fairly as it could be a situation beyond the customer’s control. This also applies at renewal.

As an alternative to refunds, insurers could consider putting in place value adding services (e.g. covering the cost of grocery deliveries or medical testing) which would both benefit the consumer whilst avoiding a large cash outflow.

Things to watch out for

Avoid knee-jerk reactions

Insurance is all about the pooling of risk. Insurers will obviously be keen to try and recoup major losses through increased premiums. However, it would be too much of a knee-jerk reaction if premium increases were squarely down to the losses faced from Covid-19. A reaction like this would suggest that the insurer is not managing their exposures or reserves adequately over time. After all, when an event is labelled as, for example, a 1-in-20 year event, we should expect to see a large loss appear inside of 20 years and not be caught off guard by it.

Don’t price out (of) the market

Insurers should also check that their annual pricing calibration exercises allow for the Covid-19 data appropriately as there is a risk that the data might drive volatile pricing. Covid-19 related data should be isolated and treated carefully to avoid pricing model outputs which would put vulnerable customers at risk or jeopardise the insurer’s business objectives. Additionally, any ex gratia payments will need to be identified carefully and, if appropriate, excluded from any calibration exercises.

Are you covering costs?

Pricing actuaries should also assess any changes to policy expense loadings, especially for portfolios that have seen or may see significant reductions in volume. The lower volume could mean that insurers are no longer charging enough to cover their fixed expenses which could add to any strain that the insurer is facing in the current claims climate.

Will claims costs rise?

Social inflation is the latest buzz word that is used to describe the increasing level of court awards due to changes in societal trend. No doubt, Covid-19 has had an impact on the wider perception of society as to what is fair and just with a sprinkling of deep pocket syndrome. Insurers may be under pressure to pay out more and perhaps beyond what they had expected in the current climate. Whether this will ultimately result in an increase in claims costs either legitimately or otherwise is unknown. There will be an element of crystal ball gazing required by underwriters and pricing actuaries when ascertaining future sociological trends and future risks to ensure adequate pricing.

New Normal?

Covid-19 have already changed the economy and people’s behaviours. Many believe that this impact will last for quite some time and a new normal will emerge.  What will be our new normal and how long things like social distancing will last are still largely unknown at this stage. Pricing actuaries should weigh up different possibilities and stress test their pricing models and business plans where necessary.

Final thoughts

Pricing is interlinked with the business plan and so revisions in one will need to go hand in hand with revisions in the other. We have highlighted a couple of areas such as expenses and the new normal above which will need to be looked at more closely when insurers are assessing their business plan for this year. The impact on business planning will be explored in another blog.