Persistency and Profits

How can the analysis of persistency patterns aid policy pricing and afford a competitive advantage to the discerning insurer? When setting rates to optimize long-term income, one should search for policyholders who are price conscious now, who will remain loyal to their insurance carrier, and who will turn profitable in the future. The carrier should offer premium discounts to attract these risks, and then reap the profits later. Older driver discounts for personal automobile insurance provide a clear illustration of this. Older drivers are loyal to their current insurer, and their average pure premium drops dramatically once they retire. Before they retire, drivers are more price conscious and have higher expected losses. The carrier should offer a premium discount to attract the driver nearing retirement, before the expected loss ratio actually drops. It will then enjoy the future income from a large and stable population of retiring drivers. The paper provides an extended demonstration of such pricing techniques. The actuary determines persistency rates and loss ratios by age of the insured and age of the policy. From these he or she calculates the long-term profits expected from premium discounts or surcharges for particular classifications. The long-term and short-term expected profits may diverge greatly. The rate relativities indicated by short-term "snap-shot" analyses are not necessarily optimal in the long-run. In particular, optimal pricing strategy calls for greater premium discounts for the near-retirement drivers than those indicated by short-term loss ratio analyses.