Group for Research in Decision Analysis

Insurance Company Operations and Dependence Modeling

Edward (Jed) Frees

Actuaries and other analysts have long had the responsibility in insurance company operations for various financial functions including (i) ratemaking, the process of setting premiums, (ii) loss reserving, the process of predicting obligations that arise from policies, and (iii) claims management, including fraud detection. With the advent of modern computing capabilities and detailed and novel data sources, new opportunities to make an impact on insurance company operations are extensive. I focus on models at the "micro" level of risk, corresponding to an individual contract or individual claim. By understanding individual risks and considering a portfolio of risks, this level of detail allows, for example, the analyst to specifically consider the effects of a changing mix of business on a company's overall financial picture. Micro-level modeling smooths the path for the introduction of economic models of behavior. Economic models allow one to think about how a micro-level change (e.g., to a policy deductible) might affect risk outcomes. Actuaries and other analysts can provide useful advice if they can present a sensible projection of how a micro-level change can alter the risk position of a company's portfolio of policies. This presentation focuses on interactions among risks at a micro-level, where for example, a policy may include several coverage types or face several causes of loss. Dependence modeling among risks are important for understanding a company's total risk obligation.