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The Actuary The magazine of the Institute & Faculty of Actuaries

Reviewable rates a guaranteed success?

Recent developments in the UK critical illness (CI) market in the areas of cost
and availability of long-term premium rate guarantees have renewed interest in reviewable products. Concerns have centred on the changing
nature of the underlying risk and the resulting uncertainty in calculating the cost of long-term rate guarantees.
Insurers have suffered under the decreasing availability of reinsurance for long-term guaranteed CI, coupled with the increasing costs of such reinsurance. With many industry pundits having written the obituary of the guaranteed CI policy, the focus has moved to its lesser-known cousin, the reviewable premium product.
Reviewable CI products are not new. The first CI plans in the mid-1980s were generally unit-linked products with reviewable risk rates. What is new is the prospect that rates for in-force policies will need to change. This leads to a number of problems for providers, problems common to all protection products without guaranteed premiums and benefits.

What does ‘reviewable’ really mean?
Try to write down a detailed description of how a premium rate review will work. It isn’t as easy as it sounds. For a start, there are dozens of questions to be answered about the nature and the timing of the review. Take these, for example:
– Which elements of the pricing basis will be included in the review? Most people would think the mortality and morbidity elements should be included within the review. But what about lapses, interest rates, and expenses? Indeed, it is possible to put a case for every element of the basis to be subject to review.
– What information will be used to assess whether a basis element should be changed? Is the review limited to looking back at past experience? If so, where do you draw the line around which experience to include which product lines, which distribution channels, which years? We can classify this as ‘catch-up reviewability’. If experience is changing over time, the best you’ll do with this method is keep a few paces behind the real position.
An alternative is ‘keep-up reviewability’. Here we look at the past, and also to the future projecting trends from the data as well as allowing for likely future influences on experience, such as the introduction of a national screening programme for prostate cancer.
Whether you are catching up or keeping up, there will be decisions to make regarding the credibility of your data. As your portfolio grows the credibility of the experience will improve how do you wish to reflect this in future reviews?
– What is the trigger for review? In the broadest sense of reviewability, there will not be a specific trigger; instead, the insurer is free to review rates at any time and for any reason. However, there is typically a time trigger, with reviews carried out, say, annually or triennially. Depending on the results of the review investigations, the rates may or may not be changed.
An alternative type of trigger is an experience trigger. This implies constant monitoring of experience, with a change to rates being triggered when experience moves outside a predefined corridor.
– Are there limits on the amount of movement in the rates? Here we are talking about floors and ceilings to the amount rates can change. These limitations on movement can be relative to the original rates, or the latest set, or in relation to a period of time. An example of the latter would be a guarantee that rates will not change by more than 20% in any five-year period.
– What is your profitability objective for the review? Reviewable premium rate contracts allow you to bring your portfolio back in line with the target profit objective. Does this mean it is reasonable to subsidise past losses on the portfolio? It may be, especially if you were equally prepared to respread any past super-profits.
‘Reviewable’ or ‘renewable’
In addition to freedom to change premium rates, do you also want the freedom to change terms and conditions during the policy term? Taking this route leads you to the concept of ‘renewability’, along the same lines as the private medical insurance plans currently in the market. These plans guarantee the policyholder continuing cover, but provide no guarantees on the extent of cover or the level of charges. For a CI plan this could potentially mean CI definitions which change during the life of the policy.

Policyholder reactions
There will be some customers for whom the potential volatility of a reviewable rate contract will be unwelcome or unworkable, but many customers will be able to manage the uncertainty in the same way as they manage their outgoings on their variable-rate mortgages. For these people (or their advisers) the main requirement will be for clear information, both before they buy the insurance and during the term of cover. Among other things they will want to understand the range of possible premium-rate movements, and what factors influence these movements. They will also want to understand the cost of different rate guarantees, so that they can choose the plan that offers them the best value for money.

Practical considerations for companies
Designing a reviewable-rate contract provides a great opportunity for differentiating your offering from those of the pack. The flipside of this opportunity is the potential for complexity. Designers of new products are likely to have two limitations in common policy administration, and managing policyholders’ expectations.
Administering a reviewable-rate contract is always going to be more complicated than administering a guaranteed-rate version. Experience analyses may need to be more regular and more detailed, and any changes to rates will mean extra rate tables being held on administration systems. Limitations on the company’s freedom to change rates (such as a time trigger or a ceiling on rate changes) will mean building in extensive checks to pricing processes, to ensure that these self-imposed rules are adhered to.
Managing policyholders’ expectations will require care, particularly while reviewable-rate contracts are new to most of the market. The results of experience reviews will need clear explanations, so that policyholders can see how changes to their premium rates relate to the description of reviewability they were given initially. Even if a review shows rates can remain unchanged, it may be wise to explain this too, to avoid setting a precedent of stable rates which could be hard to overcome later.
These practical considerations mean that managing reviewable rate business is likely to be more expensive than is managing the guaranteed rate equivalent. It remains to be seen how far the difference in expenses will balance the difference in pure risk cost.

Pitching your reviewable rates
Is it better to pitch your reviewable rates high or low? There are valid arguments for both.
The argument for pitching low is that you will win the business of price-sensitive customers. However, you are likely to be first to have to change rates if experience worsens, which could result in high lapse rates among healthier lives.
Companies pitching their reviewable rates high will be able to claim a higher chance of stable rates. This could help if your target market is risk-averse, and has the added advantage of keeping up remuneration levels for commission-based sales forces. The big danger of pitching high is that the price differential compared with guaranteed-rate contracts may not be enough to win you any business.
Whether you decide to pitch high or low, it is important to be realistic about quickly and how far you will be able to adjust rates to reflect experience. You also need to consider whether rates will be able to move up in response to worsening experience as quickly as they move down in response to improving experience. If not, there is clearly a cost of delay to be built into your pricing.
While there may be genuine concerns about long-term guarantees, it is a challenging exercise to design a reviewable alternative that is both marketable and manageable. Answer all the questions above and you’ll be halfway there