The Big Picture : Insurance Industry and Insurance Company Operations

The Big Picture : Insurance Industry and Insurance Company Operations Chapter 5 & 6, Rejda (14th ed) “ People who work for insurance companies do a lot more than sell insurance .” -- Insurance Information Institute

Global Insurance Industry in 2022 Swiss Re, Sigma, No.3/2023 In 2022 insurance companies wrote US 6.8 trillion in premiums worldwide , with life insurance accounting for 41% and non-life for 59%. Life insurance recorded a 3.1% decrease and non-life insurance increased by 0.5%. Around 81% of premiums derived from the advanced markets, where on average 9.5% of GDP or US 5,035 per capita was spent on insurance. In the emerging markets an average of just 3.0% of GDP or US 187 per capita was spent on insurance. On a global average, 6.8% of GDP goes on insurance. Worldwide average per capita insurance spending is 853. 2

Total premium volume in USD in 2022 Ranking 1 2 3 4 5 6 7 8 9 10 11 15 Economy United States PR China United Kingdom Japan France Germany South Korea Canada Italy India Taiwan Hong Kong Source: Swiss Re, Sigma, No.3/2023 Premium volume (in billions of USD) 2022 2,960 698 363 338 261 242 183 171 160 131 86 69 Change (in %) nominal (in USD) 8.6% 0.2 -2.8 -15.1 -10.7 -11.3 -5.3 2.8 -16.5 6.5 -23.8 -5.6 Share of world market 2022 (in %) 40.3% 10.3 5.5 5.9 4.3 4.0 2.9 2.5 2.8 1.80 1.3 1.1 3

Life insurance premium volume in USD in 2022 Ranking 1 2 3 4 5 6 7 8 9 10 11 12 Economy United States PR China United Kingdom Japan France Italy India Germany South Korea Canada Taiwan Hong Kong Source: Swiss Re, Sigma, No.3/2023 Premium volume (in millions of USD) 2022 672,006 364,359 248,240 243,892 157,179 115,938 99,503 99,164 88,026 71,639 62,714 60,119 Change (in %) nominal (in USD) 9.2% -0.3 -2.2 -15.9 -13.6 -20.1 7.0 -16.2 -6.8 2.5 -29.6 -6.5 Share of world market 2022 (in %) 23.9% 13.0 8.8 8.7 5.6 4.1 3.5 3.5 3.1 2.50 2.2 2.1 4

Non-life insurance premium volume in USD in 2022 Ranking 1 2 3 4 5 6 7 8 9 10 16 35 Economy United States PR China Germany United Kingdom France Canada South Korea Japan Netherlands Australia Taiwan Hong Kong 24-5 Source: Swiss Re, Sigma, No.3/2023 Premium volume (in millions of USD) 2022 2,287,801 333,448 142,469 114,769 104,075 99,332 94,820 93,920 72,225 55,952 23,761 8,648 Change (in %) nominal (in USD) 8.50% 0.8 -7.5 -4.3 -6.1 3.1 -3.8 -12.9 -7.9 -0.5 -2.5 1.4 Share of world market 2022 (in %) 57.6% 8.4 3.6 2.9 2.6 2.5 2.4 2.4 1.8 1.4 0.6 0.2 5

Macroeconomic indicators in 2022 Ranking Economy 1 United States 2 PR China 3 Japan 4 Germany 5 India 6 United Kingdom 7 France 8 Russia 9 Canada 10 Italy 21 Taiwan 42 Hong Kong Source: Swiss Re, Sigma, No.3/2023 Population (millions) 333 1,427 126 84 1,422 68 68 144 39 59 24 8 GDP (billion USD) 25,463 17,984 4,105 4,070 3,298 3,082 2, 781 2,240 2,140 2012 762 361 GDP per capita (thousand USD) 76.4 12.6 32.6 48.5 2.3 45.3 40.9 15.6 54.9 34.1 31.8 45.1 6

Insurance density: premiums per capita in USD in 2022 Ranking 1 2 3 4 5 6 7 8 9 10 16 42 Economy Cayman Islands Hong Kong United States Singapore Denmark Macao Switzerland Ireland Finland Netherlands Taiwan PR China Source: Swiss Re, Sigma, No.3/2023 Total Business 20,834 9,159 8,885 7,563 7,320 6,605 6,364 5,438 5,180 5,036 3,662 489 Life Business 1,627 8,007 2,017 6,074 5,532 6,048 2,730 3,678 4, 203 4,099 2,656 255 Non-Life Business 19,207 1,152 6,868 1,489 1,788 557 3,634 1,760 976 937 1,006 234 7

Insurance penetration: premiums in % of GDP in 2022 Ranking Economy 1 Cayman Islands 2 Macao 3 Hong Kong 4 United States 5 Taiwan 6 South Africa 7 South Korea 8 Denmark 9 United Kingdom 10 Finland 38 PR China Source: Swiss Re, Sigma, No.3/2023 Total Business 23.2% 20.9 19.0 11.6 11.4 11.3 11.1 10.9 10.5 10.0 3.9 Life Business 1.8% 19.1 16.7 2.6 8.2 9.1 5.4 8.3 8.1 8.1 2.0 Non-Life Business 21.4% 1.8 2.4 9.0 3.1 2.2 5.8 2.7 2.4 1.9 1.9 8

HK Insurance Business Statistics As at 30 June 2023, there were 164 authorized insurers in Hong Kong, of which 89 were pure general insurers, 53 were pure long term insurers, 19 were composite insurers and 3 were special purpose insurers. – Now In 2021, the total gross premiums of the Hong Kong insurance industry increased by 0.06% to 581.7 billion. – Now 9

Largest HK Insurers (Life) https://www.ia.org.hk/tc/infocenter/statistics/files/Table-L13 2021.pdf L13 Total Long Term In-Force Business in 2021 Abbreviated Premiums(Annu Rank Name of Insurers Name al) m AIA 1 AIA International Limited 83,738 International Prudential (HK) 2 Prudential Hong Kong Limited 71,520 Life 3 China Life Insurance (Overseas) Company Limited China Life 47,280 4 HSBC Life (International) Limited HSBC Life 42,000 5 Manulife (International) Limited Manulife (Int’l) 33,386 6 BOC Group Life Assurance Company Limited BOC LIFE 26,548 AXA China Region Insurance Company (Bermuda) AXA China 7 25,144 Limited (Bermuda) China Taiping Life Insurance (Hong Kong) Company 8 TPLHK 17,413 Limited Hang Seng 9 Hang Seng Insurance Company Limited 13,057 Insurance FWD Life 10 FWD Life Insurance Company (Bermuda) Limited 11,826 Sub-total Others (remaining insurers) Market Total Market Share % 19.66 16.79 11.1 9.86 7.84 6.23 5.9 4.09 3.07 2.78 87.32 12.68 100.0 24-10

Largest HK Insurers (Non-life) https://www.ia.org.hk/tc/infocenter/statistics/files/T G20 2021.pdf Table G20 Top 10 Non-Life Insurers by Overall Gross Premiums in 2021 Ranking of Insurers Gross Premiums Market Share m % 1 AXA General Insurance Hong Kong Limited 4,255 7.8 2 4,109 3,036 6.9 3 Bupa (Asia) Limited HKMCI 4 China Taiping Insurance (HK) Company Limited 2,640 6.1 5 Zurich Insurance Company 2,431 4.5 6 AIG Insurance Hong Kong Limited 1,945 3.5 7 Asia Insurance Company, Limited 1,883 8 XL Insurance 1,789 3.4 9 Generali 1,735 3.0 10 AIA International Limited 1,701 2.4 Total Gross Premiums Written by Top 10 Insurers in 2021 25,524 41.4 Corresponding Figures for 2020 26,704 42.0 24-11

Insurance Companies. are an efficient way to participate in large pools, thereby offering individual purchasers the risk reduction made possible by the law of large numbers. Insurers also provide value-added services such as loss control, claims processing, etc. 12

Overview of Private Insurance in the Financial Services Industry The financial services industry consists of: – Commercial banks – Savings and loan institutions – Credit unions – Life and health insurers – Property and casualty insurers – Mutual Funds – Securities brokers and dealers – Private and state pension funds – Government-related financial institutions 13

Exhibit 5.1 Assets of Financial Services Sectors, 2010 ( billions) 14

Insurance Industry Changes in Industry Structure – Consolidations The number of firms has declined due to mergers and acquisitions – Convergence Existing financial institutions now sell a wide variety of financial products that earlier were outside their core business area Changes in Distribution Patterns – Agents compensation: commission to fee system – Internet – Bancassurance Changes in Forms of Coverage – E-risk coverage – Terrorism coverage FinTech Disruptive Innovation? (WaterDrop 水滴籌) 15

Types of Private Insurers (annual updates at I.I.I.) Size of the insurance market, 2010 – Life and health insurers: 1061 These insurers sell life and health insurance products, annuities, mutual funds, pension plans, and related financial products – Property and casualty insurers: 2689 These insurers sell property and casualty insurance and related lines, including marine coverages and surety and fidelity bonds 16

Exhibit 5.2 Top Twenty U.S. Life/Health Insurance Groups by Revenues, 2010 ( millions) Now 17

Exhibit 5.3 Top Twenty U.S. Property/ Casualty Companies by Revenues, 2010 ( millions) Now 18

Types of Private Insurers Stock Insurance Companies Ownership and governance: owned by stockholders Status of the policyowner: contracts are nonassessable Dominant in the property and liability industry Mutual Insurers Ownership and governance: owned by policyowners Dominant in the field of life insurance Changing corporate structure of mutual insurers because of mergers, demutualization, and formation of mutual holding companies Others: Reciprocal exchanges; Lloyd’s of London; Blue Cross and Blue Shield Plans; Health maintenance organizations (HMOs); Captive insurer; etc. 19

Types of Private Insurers A stock insurer is a corporation owned by stockholders – Objective: earn profit for stockholders Increase value of stock Pay dividends – Stockholders elect board of directors – Stockholders bear all losses – Insurer cannot issue an assessable policy 20

Types of Private Insurers A mutual insurer is a corporation owned by the policyowners – Policyowners elect board of directors, who have effective management control – May pay dividends to policyowners, or give a rate reduction in advance – There are three main types of mutual insurers: An advance premium mutual is owned by the policyowners; there are no stockholders, and the insurer does not issue assessable policies An assessment mutual has the right to assess policyowners an additional amount if the insurer’s financial operations are unfavorable A fraternal insurer is a mutual insurer that provides life and health insurance to members of a social or religious organization 21

Types of Private Insurers The corporate structure of mutual insurers is changing due to: – An increase in company mergers – Demutualization, in which a mutual company is converted into a stock insurer by: Pure conversion Merger Bulk reinsurance – The creation of mutual holding companies A holding company is a company that directly or indirectly controls an authorized insurer 22

Exhibit 5.4 Mutual Holding Company Illustration 23

Alternative Modes of Demutualization 24

Agents and Brokers (1/3) An agent is someone who legally represents the principal and has the authority to act on the principal's behalf Authority may be: – Expressed – Implied – Apparent The principal is legally responsible for all acts of an agent when the agent is acting within the scope of authority 25

Agents and Brokers (2/3) A property and casualty agent has the power to bind the insurer – A binder provides temporary insurance until the policy is actually written A life insurance agent normally does not have the authority to bind the insurer – The applicant for life insurance must be approved by the insurer before the insurance becomes effective 26

Agents and Brokers (3/3) A broker is someone who legally represents the insured, and: – solicits applications and attempts to place coverage with an appropriate insurer – is paid a commission from the insurers where the business is placed – does not have the authority to bind the insurer – Top 10 Global Insurance Brokers CUHK’s current broker: Marsh, AON & JLT 27

Insurance Company Operations Rating and Ratemaking Underwriting Production Claims settlement Reinsurance Alternatives to Traditional Reinsurance Investments Other Insurance Company Functions 28

Rating and Ratemaking Ratemaking refers to the pricing of insurance and the calculation of insurance premiums – A rate is the price per unit of insurance – An exposure unit is the unit of measurement used in insurance pricing – Total premiums charged must be adequate for premium rate * exposure units paying all claims and expenses during the policy period

Rating and Ratemaking – Rates and premiums are determined by an actuary, using the company’s past loss experience and industry statistics Portrayal of actuaries as math–obsessed, socially disconnected individuals with shockingly bad comb–over 97.28892 percent incorrect --- SoA News Release (Was About Schmidt about actuaries? P.23, The Actuary 37(3), March 2003) – Actuaries also determine the adequacy of loss reserves, allocate expenses, and compile statistics for company management and state regulatory officials. – Actuary in the future & – From Actuary to Anything you like (The Actuary, October/November 2015) Bonus Credit Work (by 10/10)

Underwriting Underwriting refers to the process of selecting, classifying, and pricing applicants for insurance A statement of underwriting policy establishes policies that are consistent with the company’s objectives The underwriting policy is stated in an underwriting guide, which specifies: – – – – – Acceptable, borderline, and prohibited classes of business Amounts of insurance that can be written Territories to be developed Forms and rating plans to be used Business that requires approval by a senior underwriter

Underwriting Principles The basic principles of underwriting include: – Attain an underwriting profit – Select prospective insureds according to the company’s underwriting standards Reduce adverse selection against the insurer Adverse selection is the tendency of people with a higher-thanaverage chance of loss to seek insurance at standard rates. If not controlled by underwriting, this will result in higher-than-expected loss levels. – Provide equity among the policyholders One group of policyholders should not unduly subsidize another group 32

Steps in Underwriting Underwriting starts with the agent Information for underwriting comes from: – – – – – The application The agent’s report An inspection report Physical inspection A physical examination and attending physician’s report – MIB report (Cf. HK’s MIB report)

Steps in Underwriting After reviewing the information, the underwriter can: – Accept the application and recommend that the policy be issued – Accept the application subject to restrictions or modifications – Reject the application Many insurers now use computerized underwriting for certain personal lines of insurance that can be standardized

Underwriting Considerations Other factors considered in underwriting include: – Rate adequacy – Availability of reinsurance – Whether policy can or should be cancelled or renewed

Production Production refers to the sales and marketing activities of insurers – Agents are often referred to as producers – Life insurers have an agency or sales department – Property and liability insurers have marketing departments The marketing of insurance has been characterized by a trend toward professionalism – An agent should be a competent professional with a high degree of technical knowledge in a particular area of insurance and who also places the needs of his or her clients first 36

Production Several organizations have developed professional designation programs for insurance personnel: – The American College: CLU, ChFC – The American Institute for Chartered Property and Casualty Underwriters: AICPCU – Certified Financial Planner Board of Standards, Inc.: CFP – National Alliance for Insurance Education & Research: CIC

Claim Settlement ( ICCB) The objectives of claims settlement include: – Verification of a covered loss – Fair and prompt payment of claims – Personal assistance to the insured Some laws prohibit unfair claims practices, such as: – Refusing to pay claims without conducting a reasonable investigation – Not attempting to provide prompt, fair, and equitable settlements – Offering lower settlements to compel insureds to institute lawsuits to recover amounts due

Types of Claims Adjustors Major types of claims adjustors include: – An insurance agent often has authority to settle small first-party claims up to some limit – A company adjustor is usually a salaried employee who will investigate a claim, determine the amount of loss, and arrange for payment. – An independent adjustor is an organization or individual that adjusts claims for a fee – A public adjustor represents the insured and is paid a fee based on the amount of the claim settlement

Steps in Claim Settlement The claim process begins with a notice of loss, typically immediately or as soon as possible after a loss has occurred. Next, the claim is investigated – An adjustor must determine that a covered loss has occurred and determine the amount of the loss The adjustor may require a proof of loss before the claim is paid The adjustor decides if the claim should be paid or denied – Policy provisions address how disputes may be resolved Claims adjustors as detectives? 40

Reinsurance Reinsurance is an arrangement by which the primary insurer that initially writes the insurance transfers to another insurer part or all of the potential losses associated with such insurance – The primary insurer is the ceding company – The insurer that accepts the insurance from the ceding company is the reinsurer – The retention limit is the amount of insurance retained by the ceding company – The amount of insurance ceded to the reinsurer is known as a cession

Reinsurance Reinsurance is used to: – Increase underwriting capacity – Stabilize profits – Reduce the unearned premium reserve, which represents the unearned portion of gross premiums on all outstanding policies at the time of valuation – Provide protection against a catastrophic loss – Retire from business or from a line of insurance or territory – Obtain underwriting advice on a line for which the insurer has little experience

Alternatives to Traditional Reinsurance Some insurers use the capital markets as an alternative to traditional reinsurance Securitization of risk means that an insurable risk is transferred to the capital markets through the creation of a financial instrument, such as a catastrophe bond or futures contract – ILS in HK? Insurance (Amendment) Bill 2020 Catastrophe bonds are corporate bonds that permit the issuer of the bond to skip or reduce the interest payments if a catastrophic loss occurs – Catastrophe bonds are growing in importance and are now considered by many to be a standard supplement to traditional reinsurance. 43

Investments Because premiums are paid in advance, they can be invested until needed to pay claims and expenses Investment income is extremely important in reducing the cost of insurance to policyowners and offsetting unfavorable underwriting experience Life insurance contracts are long-term; thus, safety of principal is a primary consideration In contrast to life insurance, property insurance contracts are short-term in nature, and claim payments can vary widely depending on catastrophic losses, inflation, medical costs, etc 44

Exhibit 6.1 Growth of Life Insurers’ Assets (annual updates at I.I.I.)

Exhibit 6.2 Asset Distribution of Life Insurers, 2010 ( 5.3 trillion) ( 7.7T in 2020) 46

Exhibit 6.3 Investments, Property/Casualty Insurers, 2010 ( 1.32 trillion) ( 2.0T in 2020) 47

Other Insurance Company Functions Information systems are extremely important in the daily operations of insurers. – Computers are widely used in many areas, including policy processing, simulation studies, market analysis, and policyholder services. The accounting department prepares financial statements and develops budgets In the legal department, attorneys are used in advanced underwriting and estate planning Property and liability insurers also provide many loss control services 48

The lighter side of insurance. Suppose you are a personnel manager of an insurance company. Does your organization struggle with the problem of properly fitting people to jobs? Here is a handy hint for ensuring success in job placement. Take the prospective employees you are trying to place and put them in a room with only a table and two chairs. Leave them alone for two hours, without any instruction. At the end of that time, go back and see what they are doing. 25-49

Insurance Job Placement. If they have taken the table apart in that time, put them in Loss Control. If they are counting the butts in the ashtray, assign them to Finance. If they are screaming and waving their arms, send them to Claims. If they are talking to the chairs, Personnel may be a good spot for them. If they are sleeping, they are Management material. 25-50

Insurance Job Placement. If they are writing up the experience, send them to Underwriting. If they don’t even look up when you enter the room, assign them to Risk Management. If they try to tell you it's not as bad as it looks, send them to Marketing. And. if they’ve left early, put them in Sales. ACTUARIAL JOKES (?!) http://www.actuarialjokes.com 25-51