Price Optimization Overview

Actuaries are a key part of the ratemaking process, and generally are responsible for determining the estimated costs of risk transfer. As risk transfer costs change over time, actuaries develop rate indications and determine how to update the rates and factors used to price risk transfer. A rate indication represents a point estimate of expected future costs. Once a rate indication has been developed, the insurer passes on that indication to other functional areas within the company to obtain their input. The insurer also takes into consideration externalities such as legal and regulatory limitations. The final rates and rating factors used are then selected after reviewing these inputs and limitations. This document is intended to provide information about the overall pricing process in the P&C insurance industry and how those practices have evolved into what is known today as Price Optimization. It is not intended to be an Actuarial Standard of Practice. First and foremost, Price Optimization as it’s now known has always been and continues to be one component of the ratemaking process in how the business manager goes from actuarial rates to final prices. For purposes of this document and related discussions, we define price optimization in P&C insurance as the supplementation of traditional supply-side actuarial models with quantitative customer demand models. This supplementation takes place through a mathematical process used to determine the prices that best balance supply and demand in order to achieve user-defined business goals while simultaneously imposing business or regulatory limitations on how those goals are achieved. The end result is a set of proposed adjustments to the cost models by customer segment for actuarial risk classes.