Actuarial Value

Actuarial Value

John Burville

May 19th, 2004

I am an Actuary

A “herd” of Actuaries

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Actuarial Value

The drive for profitability

The Story of ACE

Acquisition Trail1995 - 1999

Lloyds syndicates

Catastrophe Reinsurer (Tempest)

Westchester (USA)

CIGNA’s worldwide P&C

Capital Re

ACE Transformation

Year Location Lines Of Business

Number of Staff

Total Reserves

Total Assets

1994 Bermuda XL, D&O 40 $1.2bn $3bn

1999 Worldwide Most Commercial Lines

8,000 $9bn $30bn

Nouveau Business Plan

Starting point:CIGNA - Combined >110%

Business Plan:1. Cease all businesses with Combined >100%.2. Reinsure Run-off liabilities

Ending point:ACE USA - Combined <100%

ACE Transformation

Year Number of actuaries Photos

1994 1

1999 100

Actuarial Value

Reserving

ROE

Planning

Monitoring

ROE

With specific deliverables to key

management

Reserving

Establish sound reserving practices.

Have reviews completed timely.

Use a consistent reporting to Head Office.

Succinct reports for executive management.

ROE

Revenue divided by Equity

ROE

A measure to ensure effective use of capital.

Alternative views on ROE:– Calendar year ROE– Pricing ROE– ROE measure for multi-year tailored contracts– et al

ROE

“Field of Dreams”

ROE - E an Enigma

Capital needed in ACE– Market comparisons– DFA analysis– Statutory RBC models– Rating Agencies

Rating agencies– Each rating agency has different ways of assessing needed

capital:O RBC type model.O Various ratios and tests.O Comparison with other companies in common rating

category.

ROE - E use S&P Model

Lower bound of needed capital.

Can get a copy from S&P.

Is a well defined model.

Can be built by the company.

Additive.

Is simple to use and easy to manage.

ROE - method

Pricing ROE.

Run a cash flow model.

Use S&P capital.

ROE is IRR of Surplus flows.

LiabilitiesUPRLoss RSVExpense RSVFunds Held

Equity

LiabilitiesUPRLoss RSVExpense RSVFunds Held

Equity

ROE Pricing ModelIRR on Equity Flows

Pool of Equity

Single Policy Venture Ltd.

IncomeUWInvestTaxes

IncomeUWInvestTaxes

AssetsInvestedReceivableRecoverable

AssetsInvestedReceivableRecoverable

Equity Flows

Premium Loss, Expense Income TaxInv Income

ROE - GL example

Year Premium ExpensePaid

LossesEOY

reserveInv

IncomeSurplusFlows

0 100,000 (27,490) 0 70,000 2,048 (64,126)1 (6,617) 63,383 7,449 580222 (7,125) 56,258 4,161 4,2683 (10,256) 46,003 3,456 4,497…

1. Surplus amounts use S&P Capital Adequacy factors for premiums, reserves and assets. GL factors used here are: Premiums 1.5 x 0.33, Reserves 1.5 x 0.11, Assets 4.5%.2. ROE is IRR of surplus flows.

Where are we now? PricingModelROE

Division 10% 12.5% 15% 17.5% 20%Bus. Unit 1 104% 102% 100% 99% 97%Bus. Unit 2 102% 99% 95% 92% 90%Bus. Unit 3 101% 97% 94% 90% 87%Bus. Unit 4 97% 94% 92% 90% 88%Bus. Unit 5 106% 104% 101% 98% 95%Bus. Unit 6 96% 92% 89% 86% 83%Bus. Unit 7 94% 91% 89% 86% 84%Bus. Unit 8 95% 93% 91% 89% 88%Bus. Unit 9 98% 96% 94% 92% 91%Grand Total 99% 96% 93% 91% 88%

Combined Ratio Needed to Achieve ROE

ROE

ROE - Actuarial Value

Using ROE pricing models should result in achieving the ROE in the future.

Division managers will be given ROE targets.

Division managers will establish ROEs for products and business units within the division.

– Manager will set guidance for minimum acceptable ROE by product line.

– Some products deserve to achieve higher ROEs.– Some will always achieve a lot less.

Use ROEs as part of the planning process.

Planning Cycle

CEO sets pricing ROE targets.

Planning process establishes strategies to achieve loss ratios, ROEs, and volumes.

Quarterly monitoring of planned strategies, and revision of loss ratios.

Use ROEs as guide in planning process.

Planning CycleDetermine Pricing ROEs.

Present ROEs to CEOs, and Underwriters.

Develop alternative scenarios to achieve acceptable ROE for next year.

Manager/Underwriter agree ROE, Volume, plan loss ratios, and the

strategies to achieve plan loss ratios.

Underwriters work with actuaries to monitor and manage strategies. Eg

Pricing, risk selection, loss experience.

Results during the year.

Submit Plan with strategies

Verify achievements of Plan strategies

Bridging Analysis

Business Segment 1

Combined Ratio

ROE

Hist. Indication 105.8% 8.0%

Action Steps:

Rate Change -6.0%

Treaty Renew . 2.5%

Elim. Bad Accts. -2.0%

Loss Control -2.0%

Final Plan Selection 98.3% 16.3%

Bridging Analysis

Current Indicated Combined Ratio and ROE Combined Ratio @ Slctd. Run Rate : 105.8%

Selected Run Rate : 74.0% ROE @ Selected Run Rate : 8.0%

Loss Ratio Action Steps Impact Monitoring Tool/Frequency

1. Rate Change of 10% effective 1/1/02 6.0% Price Monitoring Reports/Monthly

2. Increase of +5% in Treaty Renewal Terms, 7/1/02 -2.5% Treaty Renewal Terms, 7/1/02

3. Non-Renew Accouts ABC, DEF, & GHI 2.0% Per Underwriter/Quarterly Updates

4. New Loss Control Initiative 2.0% Claim Freq Reports/Quarterly

7.5%

Selected Plan Loss Ratio : 66.5% Combined Ratio @ Selected Plan LR : 98.3%

ROE @ Selected Plan LR : 16.3%

ROE planning process

Underwriter and actuary must work together to develop the plan ROEs.

– Actuary will develop projected loss ratios.– Underwriter will agree achievable price/contract terms/reinsurance

costs/new business strategies.– Actuary will reflect underwriters strategies into the ROE bridging analysis

to arrive at pricing ROE.

The process is dependent upon achieving agreed strategies. The strategies can be verified.

– Price monitoring– Underwriter culling activity.– Contract changes– Reinsurance changes

The planning process targets the CEOs primary ROE goal.– Deliverables are created– Actuary and underwriter are both responsible for the component

verifiable parts.