GRASP Practice Problem Set #17

[confused]

Why is the pooling charge being added to the Net Claims before credibility weighting? Initially, I added the pooling charge after taking the weighted average of the Manual claim rate and the Net Claims Experience rate.

The solution seems to be only using 25% of the pooling charge.

To me, catastrophic pooling is almost considered a separate product. If we assumed that this group had no credibility, we would only need to use the manual claims rate. And if they had catastrophic pooling then we would need to add the pooling charge to the manual claims rate.

Any help would be appreciated. Thanks!

[Rainson]

The manual rate represents the estimate of claims both under and over the pooling point. Therefore we do not need to add the pooling charge to the manual rate portion or we would be charging twice for that portion.

If you were to pull the catastrophic coverage out and price it as a separate benefit, you would need to pull the expected cost of claims over the pooling level out of the manual rate too so that the manual rate would only represent the cost of claims below the pooling point.

In that case, you would be charging a blend of the experience claims below $50,000 and the manual claims below $50,000 PLUS a pooling charge representing the expected (or manual) claims above $50,000.

In the problem we are essentially charging a blend of the experience claims below $50,000 and the manual claims below $50,000 PLUS a blend of the manual claims above $50,000 and the manual claims above $50,000 (in other words only the manual claims above $50,000).

Both of these approaches will lead to the same answer.

[The Head Detective]

nevermind

[confused]

The manual rate represents the estimate of claims both under and over the pooling point. Therefore we do not need to add the pooling charge to the manual rate portion or we would be charging twice for that portion.

If you were to pull the catastrophic coverage out and price it as a separate benefit, you would need to pull the expected cost of claims over the pooling level out of the manual rate too so that the manual rate would only represent the cost of claims below the pooling point.

In that case, you would be charging a blend of the experience claims below $50,000 and the manual claims below $50,000 PLUS a pooling charge representing the expected (or manual) claims above $50,000.

In the problem we are essentially charging a blend of the experience claims below $50,000 and the manual claims below $50,000 PLUS a blend of the manual claims above $50,000 and the manual claims above $50,000 (in other words only the manual claims above $50,000).

Both of these approaches will lead to the same answer.

That makes sense...Thanks!

[FSA2080]

But why in Question 1, the pooling charge is added after the credibility weighting? Understand that there is no manual rate here, but is adding the pooling charge before credibility weighting also an acceptable approach? or there is a certain solid rule must be followed?

[The Head Detective]

It depends. There is no solid rule other than than you should be consistent with the rest of your rate steps.

In problem 1, it doesn't make any difference. You are blending claims from the current year and the prior year and both claim amounts have excess claims removed. You could add $1.3M to each before you blend them, or blend them and then add $1.3M. Six of one, half dozen of another. (although it would make a slight difference if you added the pooling before you adjusted for demos and benefits)

In problem 17 you have to add the pooling charge to the groups experience before you blend it with the manual rate, since the manual rate includess claims >50K (as Rainson said above). You can think of it like "since the group is 25% credible, then 25% of it's pooling is from the explicit stop loss provision and 75% is implicit in the manual rate".

Another case would be if you're using the loss ratio credibily method. Your "target loss ratio" would be different depending on whether you add pooling before or after you adjust for credibility.

I have seen it done multiple ways in practice and there isn't really a "right" answer. You just have to be consistent with the rest of the formula. This is where the "art" or pricing & underwriting starts to rear its head.