Risk and the future
- The most important way in which to define an u/w is in terms of "risk".
- "risk" is a kind of description or evaluation of the future.
- One of the common elements of risk is uncertainty: there is a risk because the future is uncertain; there is a risk in situations where the outcomes are uncertain.
- Second common element of risk is the possibility of a gain or loss.
Risk is divided into two categories: speculative risk and pure risk.
- "speculative risk" exists where there is a chance of either a gain or a loss.
- "pure risk" exists where there is only a chance of a loss.
In underwriting context the term risk is also a kind of shorthand for a person, business, or other thing.
- The subject of insurance is a person or a business, the object of insurance is the thing being insured or for which insurance is sought. Thing may be concrete, such as a car or home, or it can be abstract, such as a contractual obligation.
Underwriting Tools
Product Knowledge
- The underwriter should understand the insurance contract and the many types of policy that may express a contract of insurance.
- An insurance policy balances the risk - the applicant's need for insurance - with the insurer's need to control the risk by specifying what kinds of loss the insurer will cover and what kinds it will not.
- The underwriter must understand the potential obligation to the insured that he or she is undertaking for the insurer when he or she agrees to provide coverage using a particular policy wording. Part of that understanding includes anticipating how the policy is likely to be interpreted in a court of law.
Principles of Policy Analysis
- "Contra Proferentum" - all policies share a need for clear, unambiguous wording. Insurance policies are governed by the legal principle of contra proferentum, or "against the offeror"
- Any dispute caused by ambiguity over the policy's wording will be decided against the insurer.
- The underwriter must know not only what a policy says but why; not only the wording but the intent of the wording.
Manuscript Policies
- An underwriter will often be asked to participate in a manuscript policy drafted by an outside party. The u/w must be able to read and understand the manuscript policy and be able to assess the coverage if offers to determine whether he or she wants to participate on the risk.
- To be alert for any broadening, whether intentional or inadvertent, of the coverage that is offered in a standard wording.
- The u/w should look for typos, contradictions between different parts of the manuscript wording, and any lack of continuity or consistency in the manuscript.
- An u/w must take care when drafting manuscript policies or adapting existing policies.
The Evolution of Policy Wordings
- Wordings begin with a need for coverage.
- Individual insurers adapt the IBC wordings to produce their own standard policy wordings. For certain large or otherwise distinctive risks, insurers will also craft manuscript wordings unique to the risk.
- Policy wordings change over time to reflect changes in society and risks.
The Insurance Policy and the Law
- Policy wordings are also shaped by legal considerations over which the insurer has no control.
- If a Canadian insured has exposures in another country, such as USA Britain
The Insurance Policy as a Contract
- Definition of contract is a deliberate engagement between competent parties upon a legal consideration to do or abstain from doing some act.
- A more comprehensive definition as seen in P & P is: A contract is an agreement between legally capable parties for a consideration demonstrating intent to do something which is legal.
- 5 elements of a contract - (see example in book pages 11-12)
1. Offer and acceptance (agreement)
2. Capacity of parties to contract
3. Consideration - definition of consideration: money or a thing or act of value that one party gives or promises in exchange for the act or promise of the other party; it is the evidence that the parties intend to be bound by the contract.
4. Genuine intention (meeting of the minds)
5. Legality of object.
- Quebec
- 4 requisites to a binding contract in Quebec
1. Consent (combines the agreement and genuine intent)
2. Cause of contract (consideration)
3. Capacity to contract (same as common law)
4. Object of contract (same as common law)
Unique Features of Insurance Contracts
- 3 Additional features unique to them
1. Insurable Interest - An insurance buyer must have an insurable interest in the object of insurance.
* Definition - an insurable interest exists when the insurance buyer stands in such a legal relationship to the object of insurance as to be financially benefited by its continued existence or financially prejudiced by its loss or damage.
- Required to prevent antisocial behavior, insurance exists to transfer pure risk.
- Without insurable interest, insurance could become not merely a way to transfer risk but a way to profit by someone else's loss.
2. Indemnity - The principle of indemnity which says that an insured person should not profit by his or her own loss.
* Definition - to indemnify means to return someone after a loss to the same financial position he or she enjoyed immediately before the loss.
- Can be on ACV or replacement cost, reduced by a deductible or some other terms of the policy.
3. Utmost Good Faith (Uberrima Fides)
* - The insurance contract requires a still higher standard of honesty. Parties are expected to contract not merely in good faith but in utmost good faith.
- The higher standard for insurance contracts reflects the unequal access to information between insured and insurer.
- Ultimately the insurer and insured must be able to trust one another, that is the essence of utmost good faith.
- Underwriter must depend on the honesty of an insured and the full disclosure of all material information about the risk.
The Parts of an Insurance Policy
* Definition of policy - is a document that provides evidence of a contract of insurance. It states in detail the terms of the contract - that is, the terms of the agreement between insurer and insured.
- All insurance policies have certain features in common.
* Declarations - usually placed on a separate page. This shows the insurer & insured, policy term, premium, amounts insured, other interested parties, and sometimes a description of the object insured.
* Insuring agreements- detail the coverage.
* Statutory or General Conditions - they establish the rights and responsibilities that the laws assigns both the insured and the insurer.
* Policy Conditions - affect the actions of the insured and insurer under the policy under certain conditions. Condition clause states if an insured does not do a certain thing, the insurer will not pay a claim or policy may be voided.
* Signature Clause - policy includes a signature of the chief executive officer of the insurer & countersigned by the agent or employee of the insurer.
- Coverage is determined by the relationship between all the elements of the policy.
> see example on page 17
Industry Knowledge
- A successful u/w has a sound knowledge of the insurance market in general.
Knowledge of the Market
- The u/w requires the context within which to assess elements of the risk, and so an u/w must understand the practices and preferences of the insurer's competitors as well as those of reinsurers and intermediaries.
Knowledge of Regional Issues
- The line guide often includes territory as criteria for assessing risk.
- Different areas of the country present their own unique u/w challenges to insurers, depending on the states of local economies, weather conditions, geographical features, regulatory constraints, cultural considerations, and other factors.
Knowledge of the Regulatory Environment
- An u/w can accept business only in the classes of business that it is licensed to u/w.
- An u/w in Canada
- Many risks today also include some element of foreign exposure, especially in the USA USA
Knowledge of Business
- A commercial insurance u/w needs to be familiar with many different types of business enterprise:
* The products they manufacture
* The goods they sell
* The services they provide
* The legal, regulatory, and economic environments they operate in.
- In addition the u/w should be aware of market conditions for these businesses and their place in the larger economy.
- It is increasingly important that personal lines u/w's also obtain this information for people who now telecommute or operate various business enterprises out of their homes.
Knowledge of Employer Procedure
- Since the u/w is acting on behalf of the insurer, he or she must follow the employer's procedures and practices.
Knowledge of Resources
- The u/w should be aware of and prepared to consult all sources of information
- External sources demonstrate the power of networking - attending industry functions and establishing informal relationships throughout the industry.
- There is as much creativity to finding additional information as there is in underwriting the risk itself.
Claims Knowledge
- Some knowledge of the claims process is needed for the u/w function.
- The losses a risk has incurred in the past is a critical tool for assessing the exposure to loss that the risk represents.
- The record of past losses describe the types of loss and the amounts of loss. This is helpful in assessing how reasonable the coverage and other requested terms are, as well as the price being charged.
- Underwriters should understand the dynamics of loss development on existing claims, losses should reflect both closed claims as well as (open claims) reserves, most loss summaries include an allowance for IBNR (Incurred but not reported)
- Underwriters must be able to analyze loss experience in terms of two basic elements: frequency and severity.
> see definitions on page 22
- With frequency of loss in the experience of a risk it is an important measure of how often losses are likely to occur in the future. The more frequent the more likely a severe or shock loss will occur.
- With severity, the u/w must consider whether to accept the risk or what types of measures can be taken to reduce the likelihood of a severe loss.
- There is less control over severity than frequency. As we can't control inflation costs, cost of repairs, court awards for legal liability as these all determine the size of a claim.
- An u/w might require, as a condition of coverage, that the applicant implement recommendations by the loss control inspector to reduce hazards that could give rise to a severe loss.
In summary; the u/w must understand frequency & severity as:
* Descriptions of a risk's loss experience.
* As measures of the exposure that the risk poses or would pose to the insurer
* And as determinants of the price and other terms under which the insurer might insure the risk.
Underwriting Skills
Technical Skills
- Loss development skills are an important skill in rating and ratemaking. To set an adequate rate and develop an adequate premium for a risk, an u/w must be able to develop raw loss information by adjusting it for the projected development of open claims.
- Reinsurance skills entail the ability to determine from the line guide what capacity the insurer will make available to insure a given risk; judge how much of that capacity to commit to the risk; and structure the limit of liability to accommodate any reinsurance.
Analytical Skills
- An u/w must be able to analyze info about a risk in the context of the alternative policy wordings that might be used to provide or modify coverage.
- Skill with words, an u/w must be comfortable and skilled with words, especially in the context of policy language, to make sense of long, complex sentences that describe or limit coverage, sensitivity to subtleties in the use of words in a contract and how a court may interpret those words.
- The u/w must also be comfortable and skilled with numbers in order to help understand financial statements, summaries of loss experience, and other important pieces of u/w information info built of numbers.
Communication Skills
- The prudent u/w will work hard to cultivate skills in communicating with people.
- The u/w must choose words with care to avoid being misunderstood and to say what he or she wants to say what he or she wants to say both in writing and in discussion. The u/w must be sensitive to the ways in which others use words to avoid misunderstanding what another person means to say.
Listening Skills
- To avoid misunderstanding the u/w must listen well.
- Not only to words but to tone of a person's written correspondence, tone of their voice, body language, posture, gestures and facial expressions.
Negotiating Skills
- The prudent u/w chooses his or her own words and non-verbal signals with care and listens with care to the other person in order to achieve a mutually satisfactory business agreement with that person.
- Empathy is the most important skill for an u/w - to imagine yourself in the other's circumstances.
Organizational Skills
* - One important aspect for an u/w is their documentation skill.
- An u/w must document his or her file for a risk whenever he or she does anything significant in respect to the risk.
- The history of a risk with the insurer should be evident to the u/w - or to anyone else who needs to review that history.
Computer Skills
- Computer skills are critical to the well-organized u/w.
Time Management
- Time management is the most important of an u/w's organizational skills.
- The u/w must learn to set priorities and to reconcile a necessary concern for detail with the need to manage a large volume of work.
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