IIG News

The Evolution of Insurance

Anton Ossip – Chief Executive Officer, Discovery Insure

The beginnings of risk prevention

The concept of risk prevention can be traced as far back as 3 000BC when Chinese sea merchants would split their cargo across several vessels to reduce the risk of loss of goods due to perils of the sea.1  

Over time, this evolved into paying a fee to transfer risk to another party. It is well known that the origins of Lloyd’s and indeed the London market all started with the need for ship owners to spread the risk of their dangerous journeys with much of this happening at Edward Lloyd’s Coffee shop in around 1688.2

 

To date, traditional pricing models have relied mainly on demographic factors as a proxy for risk

Primary inputs include age, geographic location, claims history and the gender of the policyholder, with some more progressive models allowing for other observable risk factors such as credit history.  

Relying on statistical models, the use of retrospective data is key in predicting future claims experience and, hence, setting premium rates. The net result is significant cross-subsidization – good drivers tend to overpay for insurance while poor drivers underpay.

 

A significant development in insurance pricing in South Africa happened in 2011 when behavioural-based insurance was introduced to the market by Discovery Insure.  

This important step away from traditional underwriting practices enabled insurers to monitor how a client drives, such as their braking and speeding patterns; and use this data to more accurately price vehicle accident risk. This development meant that driving behaviour, which was previously not directly measurable, could be incorporated into pricing models, thereby influencing the effective cost of insurance.

However, when a client takes out a policy, an insurer has no data reflecting how they drive. Therefore, a market-related premium is charged at the outset. Through the Vitality Drive programme, Discovery Insure is able to retrospectively price clients in the form of monthly cashback and other benefits. As soon as a few days of driving data is available, the insurer is able to more accurately assess driving style. This is translated to a status which is an objective measure of driving behaviour. The more clients improve their driving behaviour, the more cashback they earn and the lower their net vehicle premium.

With this model, individuals are priced more accurately for their own risk and are able to control their insurance premium: Good drivers are likely to pay below-market rates of insurance reflecting their lower risk and bad drivers pay a premium commensurate with the level of risk they present to the insurer.

 

This is a more proactive approach to risk management

As a result, clients are motivated to drive better which results in lower accident risks. This leads to a favourable claims experience for the insurer resulting in claims savings. These savings are shared with the client in the form of incentives and benefits that creates or enhances the very behaviour change – resulting in a virtuous cycle, known as the Shared-Value Insurance model, which benefits the clients, the insurer, and society as a whole because roads become safer for all. 

 

Behavioural-based models are applicable to other areas of business

The model works as well when looking at fleet and heavy commercial vehicle insurance. The transport sector contributes significantly to GDP with 76% of freight in South Africa being transported by road.3 However, the sector faces challenges such high costs of operation and high fatality rates. In addition, heavy commercial vehicles present unique risks such as truck overloading, driver fatigue and distracted driving. By measuring how fleet drivers drive and giving them the incentives to improve their driving behaviour as well as giving businesses the tools to monitor their fleets, businesses can reduce the cost of their business insurance.

This does not just stop at vehicle insurance. Data shows that better drivers have fewer warranty claims as these drivers tend to take better care of their vehicles, thus reducing the risk of mechanical breakdown and electrical failures. Traditional warranty products tend to look only at vehicle age and mileage when charging a premium, leading to an unsophisticated pricing structure as good and poor drivers are charged the same premium. Warranty providers who are able to assess how clients drive can charge a premium that is more reflective of the risk the client and their vehicle presents thus attracting better drivers and providing more value to clients. 

 

References

  1. Benfield, B.C. (2004). Life Insurance Company Management-A Universal Primer. Johannesburg, South Africa: Intrepid Printers (Pty) Ltd
  2. Lloyd’s Corporate History: https://www.lloyds.com/about-lloyds/history/corporate-history
  3. https://www.transport.gov.za/documents/11623/39906/7_FreightTransport2017pdf/a3f7cb55-8d77-4eea-b665-4c896c95a0d8

 

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