Discussion of Unpaid Claim Estimate Standard

Raji BhagavatulaMary Frances MillerJason Russ

November 13, 2006

CAS Annual Meeting

San Francisco, CA

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Background

Guidance in estimating unpaid claims, applicable to most work, not just opinion work

Exposure draft released in March Comment period through June 32 comments received In process of reviewing comments and amending

proposed standard Have not finalized revisions to standard – thoughts

expressed today are still being considered

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Main Points of Discussion

Title of standard Scope of standard Consideration of purpose and use Handling of constraints Identification of scope of work Understanding of nature of claims Methods and models Assumptions Uncertainty Communications and Disclosures

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Title of Standard

“Unpaid Claim Estimates,” not “Reserves” Comments received argued both ways “Reserves” is a line item on a US financial

statement, not the estimate of future payments itself, but improper usage common in US

“Unpaid claim estimates” is more accurate, more generic and better accepted globally

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Scope of Standard

Includes evaluation of self-insureds, not just insurance entities

Excludes ratemaking purposes– Some comments expressed disagreement, but deemed

necessary to limit scope Excludes oral communication– Some comments expressed disagreement, but practical

necessity Excludes any actions taken after production of

unpaid claim estimate

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Consideration of Purpose and Use

Should identify in communication Has an impact on many items, such as– Selection of intended measure– Choice of method or model– Whether uncertainty needs to be measured– Presentation of results– Documentation and disclosures

Once the intended measure is decided, the purpose and use should not bias the estimate relative to that intended measure

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Handling of Constraints

Sometimes constraints exist in the performance of an actuarial analysis, such as those due to limited data, staff or time. Where the actuary believes that such constraints create a significant risk that a more in-depth analysis would produce a materially different result, the actuary should notify the principal of that risk and attempt to discuss the constraints on the analysis with the principal.

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Scope of Work

Must identify what you are estimating:– Intended measure– Gross or net– Collectibility risk– Unpaid claim adjustment expenses– Cohorts of claims– Other items needed to sufficiently describe

scope

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Intended Measure

Want it to be clear what the actuary is estimating – “Best Estimate” or “Actuarial Estimate” not sufficient– Best estimate of what? Mean? Mode? Low or High?

Risk margin included? Etc. Original exposure draft introduced term “Actuarial

Central Estimate” to use as a default Many comments concerning whether a default should

exist and if so what it should be– Concerns that ACE as default advocates something

biased lower than desired Discussing option of removing default – require

disclosure of intended measure in all cases

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Actuarial Central Estimate

Defined in exposure draft – “An estimate that represents a mean excluding remote or speculative outcomes that, in the actuary’s professional judgment, is neither optimistic nor pessimistic. An actuarial central estimate may or may not be the result of the use of a probability distribution or a statistical analysis. This definition is intended to clarify the concept rather than assign a precise statistical measure, as commonly used actuarial methods typically do not result in a statistical mean.”

Intention was for definition to cover estimates produced by “typical” actuarial methods such as loss development

Never intention to imply this is estimate actuary should produce

Considering retaining term with reworded definition, but not as default – gives actuary option to use term rather than re-define in own communication.

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Understanding Nature of Claims

Should have an understanding appropriate to the analysis

Will not include a long list of considerations as existed in original Principles– Such educational material is better suited for practice

notes than for standards or principles

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Methods and Models

Consider what is appropriate, even if same method as used before

Original exposure draft only mentioned “methods”, adding “models” to language in response to comments

Significant discussion on language concerning use of multiple methods– Want to encourage use of more than one method– Under what circumstances can the actuary use just one

method?

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Assumptions

Consider what is reasonable and appropriate given intended measure– Assumptions should “have no known significant bias to

underestimation or overestimation of the identified intended measure”

– Bias with regard to an expected value estimate would not necessarily be bias with regard to a measure intended to be higher or lower than an expected value estimate

Consider sensitivity of result to alternative assumptions

May rely on assumptions provided by principal, with appropriate disclosure

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Uncertainty

Some comments received stating actuaries should be encouraged or required to measure uncertainty

This may or may not be appropriate given the situation

Language will require consideration of uncertainty, but not necessarily measurement

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Communications and Disclosures

General guidance in other ASOPs – ASOP 9, ASOP 23, ASOP 41

Additional communication and disclosure requirements specific to this standard

This does “raise the bar”, particularly for company actuaries

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Communications and Disclosures

Clearly convey the intended purpose or use– More than one intended use?– Any compromises in order to produce a single

work product for multiple intended uses? Any resource constraint issues? Clearly define the scope of the estimate Include discussion of the uncertainties in

the estimated claim liability

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Communications and Disclosures - Dates

Actuarial communication should include– Accounting date– Valuation date

Review date may have to be included in certain circumstances

As an example, “This unpaid claim estimate as of December 31, 2005 was based on data evaluated as of November 30, 2005 and additional information provided to me through January 17, 2006”

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Communications and Disclosures – Significant Events and Assumptions

Include explicit discussion of any significant assumptions or events underlying the estimate that may not be obvious to the intended audience, including significant assumptions regarding the accounting basis or application of an accounting rule

Where the final work product reflects a material assumption or methodology that differs from what the actuary believes to be reasonable – Disclose the dependency of the final result and

– Disclose the source

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Communications and Disclosures – Ranges

What is the range intended to convey? For example:– a range of estimates of the actuarial central

estimate; – a range representing a confidence interval

within the range of outcomes produced by a particular model or models;

– a range representing a confidence interval reflecting both process and parameter risk;

– some other clearly defined range

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Communications and Disclosures – Material Changes

If the analysis is an update, disclose any material changes in assumptions to the extent known by the actuary

Disclose the reasons for the change Not required to quantify the effect