Explanation (in my own words) of how RSPs can be used to lower the ceding company's LR

user10_Exam6Cuser10_Exam6C
in Dutil.FA

can I confirm if this makes any sense.

For the question: How can a ceding company reduce it LR using RSPs?

My response: Ceding company may offload as many risks with LR higher than the RSP average LR. This will do two things (1) reduce its participation ratio (meaning ceding company reduces its portion of overall losses in the pool) and (2) since the offloaded risks have higher LR, the average RSP LR will go up but not as high as the offloaded LR (by law of averages) - in effect "dampening" the higher LR that were ceded.

These 2 elements (1) lower participation ratio and (2) spreading the risk of the high LR policies help to lower the ceding company's LR.

Make sense?

Thank you

Comments

  • javidjavid

    Hi

    That is a good explanation. I'd like to correct one piece "offload as many risks": there are transfer limits on how much you can send to the pool. I'd also like to add one more piece: ceding more risks will increase the expense allowance received from the pool -> this will help reduce the LR

  • user10_Exam6Cuser10_Exam6C

    Great point, thanks Javid

  • user10_Exam6Cuser10_Exam6C

    Is this more likely to get the points (or at least sounds clearer)

    1) Ceding max amt will lower PR in RSP
    2) Will max the expense allowance
    3) cede risk with LR higher than the average RSP LR so that other ceding companies subsidize the losses

    These elements work together to lower the LR of the ceding company.

    Does this sound better? I know it depends on points offered..

    Also, I have a question about explanation. For example, point 1 above I've said ceding max amount lowers PR and in my conclusion I state these elements help reduce LR. My question is, would I need to explain how lowering the PR in the RSP works to reduce the ceding company's LR (meaning do I need to explain that ceding more risks -> lowers PR -> lowers percentage of losses company is responsible for -> lowers LR). Is that additional step required, or can I assume that the people marking this will be satisfied?

    Thanks!

  • javidjavid

    I think you may have moved away from your original question, which was "How can a ceding company reduce it LR using RSPs?".

    Initially you said: Ceding company may offload as many risks with LR higher than the RSP average LR.

    This is good.

    Then you get into the reasons why, and you can state the three points:
    1. Other insurers will be subsidizing your losses if you try to send risks with a LR higher than the RSP avg LR
    2. By sending many risks, you reduce the participation ratio, meaning you reduce the pool loss attributable to the company.
    3. By sending many risks, you also increase the expense allowance received from the pool

    With respect to the markers, I cannot comment on this specifically. What I would say is look at the points allocated in the exam to the question. If a question like this is asked for 1 point, that I would personally answer the question "the how" and give reasons why it would work.

Sign In or Register to comment.