PROCEEDINGS May 15, 16, 17, 18, 2005 - Casualty Actuarial Society

ARCHITECTURE FOR RESIDENTIAL PROPERTY INSURANCE RATEMAKING 521fixed underwriting expenses, all expressed in dollars per policy,then loaded for variable expenses and profit. In turn, these componentsare determined from cat models (for hurricane and otherwind perils), historical loss and exposure data and distributions(for non-modeled perils), and the breakdowns of underwritingand reinsurance expenses used in the overall rate level changecalculations.Exhibit 6 shows how base rates are constructed for modeledperils. First, the fixed reinsurance costs for the homeowners lineof business are allocated to policy form on the basis of the productof the latest year’s actual distribution of exposure (earnedhouse-years) by policy and the known base coverage amount, or“earned TVI at base value insured.” The indicated loading in thebase rate is just the ratio of allocated fixed reinsurance costs toearned house-years (policies).To obtain the loss portion of the base rate, the cat model isrun against the experimental data sets and the simulated expectedgross annual losses are recorded for every location. Locationresults are aggregated statewide to obtain the overall averageloss for the base structure in a season. 20 The final base rate forhurricane, by policy form, is the loaded sum of the loss cost andfixed reinsurance cost. Recall we have chosen to allocate all nonlossreinsurance costs to the hurricane peril, so the other windbase rate by form is just the loaded loss cost.The analogous base rates for non-modeled perils are based onhistorical data and developed on Exhibit 7. When using the loss20 Model results are less credible for HO-4 (renters) and HO-6 (condominium unitowners)policy forms. The choice was made to reduce modeled loss costs for the site-builthomeowners forms, based on the ratio of the sum of base coverage A/B/C/D amounts forthe forms, to derive a reasonable hurricane loss cost for HO-4 and HO-6 forms. Specifically,the HO-4 policy provides a $10,000 base for contents coverage, no coverage forstructures, and “loss of use” coverage of 20% of the contents coverage, while the HO-3provides a $100,000 base amount for dwelling coverage, 10% of the dwelling amountfor other structures, 50% of the dwelling amount for contents, and 20% of the dwellingamount for loss of use. The ratio of total modeled coverage between these two forms istherefore (10 + 2)=(100 + 10 + 50 + 20), or about 6.7%. This assumes the same averagedamageability ratios over all coverages.