Darshan Purmessur and Haedeh Nazari examine the potential scenarios arising from COVID-19 in different insurance classes, and the importance of stress and scenario testing
The global shocks from the COVID–19 pandemic continue to be felt worldwide. Companies face both increased exposure to familiar risks and the rise of new ones, and stress and scenario testing will be an important tool for management to use in facing this new risk environment.
COVID-19 scenario analysis
COVID-19 will continue to impact the insurance industry due to reduced returns from the markets, falls in premiums, and increased claims in some classes of insurance. As such, insurers need to quantify the impact they face in this operating environment. Events can be difficult to predict, and past trends are not always a good guide to the future.
Stress and scenario testing is an important tool that management and the regulator can use to ascertain whether insurers are sufficiently capitalised to absorb potential losses from adverse real-world scenarios. The forward-looking solvency assessment is one of the main cornerstones of the Own Risk and Solvency Assessment (ORSA), for example, as it considers the expected evolution of the insurer’s balance sheet during its business planning period.
For each class of business we examine here – travel, motor, marine and health insurance – we put forward optimistic, best case and pessimistic scenarios.
These should not be regarded as predictions, as they only provide a basis for discussing and analysing possible impacts with stakeholders.
The United Nations World Tourism Organisation’s panel of experts presented three forward-looking scenarios concerning the return of international tourism to pre-pandemic levels in two and a half, three, and four years respectively (Table 1). The best-case scenario shows international tourism bouncing back modestly in 2021 to levels that are less than half of 2019 levels. This assumes a gradual reversal of the pandemic by the second half of the year, including the vaccine roll-out, a significant improvement in global traveller confidence and a lifting of travel restrictions. Based on this, it is expected that future claims will be significantly lower than average until government-imposed lockdowns are lifted and demand for travel rises again.
The knock-on effect from government-imposed lockdown is that there has been a significant reduction in the number of motor insurance claims, as many drivers are no longer on the road. With fewer miles driven and fewer cars on the road, frequency rates should decrease considerably, improving loss ratios in the near term. However, decreased accessibility of mechanics and the shortage of spare parts due to supply chain disruption, plus the additional costs of cleaning, protection kits, and the sanitisation of vehicles and workspaces have caused severity inflation and additional costs for property damage perils. For third-party damage claims, insurers have also observed increased credit hire periods from third parties.
Table 2 shows some insights on the potential order of magnitude on premium reduction and losses that could eventuate from different scenarios.
COVID-19-related border restrictions have caused a decline in trade and transportation volumes. Preliminary data from the World Trade Organisation suggest that, in November 2020, global imports and exports were still 16% below the same period for November 2019 figures. It is expected that both premium volumes and future claims will be significantly lower until production resumes and lockdown measures are eased in major economies. The key aspect here is inflation, as the cost of insured transport might increase due to supply chain disruptions, which companies would need to factor into premiums charged.
Many insurers learned lessons from the 2003 SARS outbreak and introduced exclusion clauses for communicable diseases and epidemics in most non-life products. COVID-19 has caused an acceleration in the use of telehealth. Additionally, a key conclusion of the recent Max Bupa Health Insurance COVID Survey was that before COVID-19, only 37% of Indian millennials were particular about having a health plan that covered diseases such as coronavirus infections; now, 60% want such comprehensive cover (bit.ly/34XGvjx).
Estimates on losses have not been provided; rather, impact on premium volumes is presented (Table 4). Companies would need to factor into premiums any inflationary effects that could drive up the cost of claims associated with treatment.
A starting point
Given the ongoing pandemic, both shareholders and regulators are interested to see the results of scenario analyses to gain assurances about firms’ resilience to ‘extreme’ events that could crystallise in the future. Our paper Scenario Modelling of COVID-19:
Analysis of Key Classes in P&C Industry (bit.ly/2Rx5BCH) provides a starting point for short-term insurers wanting to prepare for stress and scenario testing for some key business classes. Management should engage with various functions to formulate scenarios that are relevant to the organisation, given the firm’s risk appetite and any relevant regulatory requirements.
Darshan Purmessur is an actuarial consultant at QED Actuaries & Consultants
Haedeh Nazari is a property actuary at AIG UK
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