Balance Back Factor, Individual Adjustment and Risk Splitting Benefit

wilsonchan18

Hi,

From the BattleQuiz 1, I understand that the definition of BBF is Factor applied to Aggregate Premium to Correct for Individual Discount/Surcharge. But on the Pricing, I saw that both BBF and +/- are included in the pricing. Can I know what are the relationship b/t them? I remembered that even from Exam 5, we usually started using Pure Premium and adjust using relativity to specific class, meaning having only 1 factor wise.

Also, would you mind to elaborate more about Risk Splitting Benefit. Why will there be a chance that Indemnity will be different for the subset for 1 Agricultural Product?

Thanks and Cheers,
Wilson

graham

Let me start my answer by saying there was no example in the source text for how to actually calculate a premium using these concepts. I'm now thinking it's unlikely you'd be asked a calculation question on this, but here's the answer to your question based on the source text:

• Suppose you've calculated that your total premium needs to be $100.
• But suppose that you've also given various discounts and surcharges to individual customers so that the total premium with these adjustments is only $90. (So you gave more discounts than surcharges.)
• The BBF (Balance-Back Factor) is to ensure that the overall premium is adequate. So in this case, the balance back factor would be $100/$90 = 1.11

To summarize: The BBF and the individual discounts/surcharges are doing different things. It's the discounts/surcharges that create the relativities while the BBF adjusts everyone's rate up or down so the total premium is at the level you need.

My understanding of risk-splitting benefits based on the brief description in the reading is that it creates better homogeneity within pricing classes. In pricing, you have to think about credibility & homogeneity. The problem is that credibility means having more data in a class, but homogeneity means having risks of similar types within a class (which generally improves when the class is smaller.) The text further elaborates by saying that risk-splitting refers to splitting coverage between basic limits benefits and excess limits benefits. Basic limits data is more homogeneous while excess limits data is more volatile. Separating them means basic limits pricing will be more accurate. Excess limits pricing can then be dealt with separately as appropriate.

wilsonchan18

Thanks Graham, your answer is super clear. Very appreciated!