Property-Liability Insurance Pricing Models: An Empirical Evaluation

The major property-liability insurance pricing models are evaluated over the period 1926-1985, and results of the various models are compared in terms of the ability to predict actual underwriting profit margins. Differences between model predictions and realized underwriting profit margin series are examined over the entire period and various subperiods. The results indicate that the higher rankings usually tend to go to the total rate of return and option pricing models. This is especially true during the 2nd half of the sample period as nominal interest rates began to rise significantly. Unfortunately, the relative rankings of the alternative models are not very stable over time. Overall, the capital asset pricing model (CAPM) approaches do not predict the actual returns well until the period from 1956 through 1965; however, they do not outperform the option pricing models by much. The discounted cash flow model seems to be in line with the CAPM values and never performs any better than the CAPM.