CAS CAS Loss Reserving and Ratemaking Fundamentals 2 — Questions and Answers
Question 1: What is the fundamental insurance pricing equation?
- Premium = Losses + LAE + Underwriting Expenses + Profit (Correct answer)
- Premium = Losses only
- Premium = Expenses only
- Premium = Investment Income only
Correct answer: Premium = Losses + LAE + Underwriting Expenses + Profit
The fundamental insurance equation requires premium to cover losses, loss adjustment expenses (LAE), underwriting expenses, and a provision for profit.
Question 2: How is the loss ratio calculated?
- Claims count divided by policies
- Losses and LAE divided by earned premium (Correct answer)
- Expenses divided by earned premium
- Net income divided by surplus
Correct answer: Losses and LAE divided by earned premium
The loss ratio is incurred losses (and often LAE) divided by earned premium, expressing claims costs as a percentage of premium earned.
Question 3: What is the purpose of trend factors in ratemaking?
- To adjust historical losses to current and future cost levels (Correct answer)
- To measure the effect of reinsurance treaties
- To adjust for geographic rating differences
- To account for investment portfolio returns
Correct answer: To adjust historical losses to current and future cost levels
Trend factors project historical loss experience to expected future levels, accounting for cost inflation, social trends, and changes in the insured population.
Question 4: What does the credibility-weighted premium formula express?
- P = Z × Experience Rate + (1−Z) × Manual Rate (Correct answer)
- P = Experience Rate × Manual Rate
- P = Z × Manual Rate only
- P = Experience Rate only
Correct answer: P = Z × Experience Rate + (1−Z) × Manual Rate
The credibility formula blends the insured's own experience rate (weighted by Z) with the manual class rate (weighted by 1−Z), where Z reflects statistical credibility.
Question 5: The paid loss development method is most reliable for which type of insurance lines?
- Long-tail lines with multi-year claim settlement
- Short-tail lines where claims are reported and paid quickly (Correct answer)
- Lines with large IBNR uncertainty
- Lines with significant reopened claims
Correct answer: Short-tail lines where claims are reported and paid quickly
Paid development is most reliable for short-tail lines (e.g., auto physical damage) because paid losses converge quickly to ultimate without long settlement delays.
Question 6: What does an expense ratio measure?
- Losses divided by earned premium
- Underwriting expenses divided by written or earned premium (Correct answer)
- Investment income divided by total assets
- Reinsurance cost divided by gross premium
Correct answer: Underwriting expenses divided by written or earned premium
The expense ratio measures underwriting expenses (commissions, administrative costs, taxes) as a percentage of written or earned premium.
CAS CAS Loss Reserving and Ratemaking Fundamentals 2
What is the fundamental insurance pricing equation?