Continued improvements in medical developments means that pricing risk in the protection market is a complicated business. Alan Martin explains
When pricing life and health products, actuaries must take into account future medical health trends, which include development of new types of screening, diagnostic tests and forms of treatment.
This is important because critical illness (CI) cover, for example, provides guaranteed rates over the duration of the policy. Therefore, the prices that insurers set in the market today need to take account of the trends that will be seen over the next 25 years. Reviewable products are also not immune from future trends. In order to treat customers fairly in line with the Financial Services Authority's (FSA) initiative, and provide them with reasonable certainty about product cost, insurers must have a clear view of the likelihood of future rate increases when they sell a reviewable product.
The history problem
When pricing CI cover, the industry uses a combination of insured claims experience and population data by disease. Tracking historical data is the easiest part of the process, the real headache for the industry is to understand what is going to happen to future claims trends as medical science evolves. The biggest risk to insurers is that improvements in medical science create dramatic fluctuations in trends, which cannot be identified from historical data.
The problem with just looking at historical data is that it does not give you the full picture. For example, if breast cancer incidence is increasing by 4% per year, it could be due to a range of factors and it is important that insurers understand these and take a view on each one.
Heart attack and stroke incidence rates provide a good example of the anomalies associated with trend data. While the number of heart attacks are declining in the UK by 1.5% per year, strokes are increasing by 2% per year, despite the fact that the risk factors for both are the same - high blood pressure, high cholesterol and obesity (see figures 1 and 2).
When examining these trends in more detail, it becomes clear that there are not actually more strokes occurring among the UK population. Instead, what we are seeing is an increase in detection of strokes by more advanced medical techniques.
With most cancers, insurers are exposed to what is called 'shocks in incidence', which occur if a better form of diagnostic screening is developed. Shocks in incidence can create a dramatic upturn in claims. The extent and timing of the shock varies greatly depending on the characteristics of the cancer, the method of diagnosis and treatment available.
It is common for some cancers to exist in the body for eight or 10 years before detection. During most of those years, diagnosis would represent a valid claim under a CI policy. This is why the development of diagnostic techniques expose insurers to shocks in incidence if cancers are detected earlier across the general population.
A passing storm
An example of this occurred with breast cancer, when in 1987 routine screenings were introduced for all women over 50 in the UK.
As a result of the screenings, incidence grew by 50% between 1987 and 1995, according to Cancer Registration Statistics from the UK Association of Cancer Registries. The reason for this increase is that women were screened for the first time and all the cancers that would have appeared gradually over the subsequent 10 years were suddenly revealed all at once. This shock in incidence effect demonstrates one of the biggest issues that insurers face in trying to determine future trends.
However, an increase in incidence of this nature can be viewed as a passing storm. The trick for every pricing team is to understand the severity and duration of the storm, which varies for each type of cancer.
Shocks in incidence represent only part of the story. In CI cover, for example, the pure incidence of an illness does not always require a claim payment. The illness needs to have reached a particular stage of severity before CI cover will pay out.
This creates an interesting effect for the industry in that future improvements in the screening or diagnosis of certain illnesses may also create a positive claims trend.
A case in point is cervical cancer in the UK, where an estimated 90% of all cervical cancers are diagnosed and successfully treated before a CI claim is paid. Here, improvements in treatment or screening will reinforce an already positive claims trend.
There are usually three stages to this passing storm, which are demonstrated using the current trends for colorectal cancer, breast cancer and cervical cancer.
Positive benefits
In figure 3 you can see the typical distribution of incidence for a cancer that has no routine screening, such as colorectal cancer where diagnosis is made equally across all stages of the cancer's development. Once routine screening is implemented, however, the incidence of the illness initially will increase overall but diagnosis is typically made earlier.
Figure 4 shows breast cancer incidence, which clearly demonstrates how screening skews incidence to the early stages of disease. If, as in the case for cervical cancer, medical science produces a combination of early detection and successful treatment, we see the storm pass as more and more cases are treated before a claim would be paid. Figure 5 demonstrates this effect. Shocks in incidence and the passing storm effect demonstrate the difficulties that face the insurance industry as it prices these products.
Medical advances are a major conundrum in our industry, but for those companies who have access to the right data and expertise, there is plenty of scope to design and price products that meet the needs and expectations of shareholders and customers alike.
Alan Martin is business owner for CI in the UK at GE Insurance Solutions
COVER notes
In order to treat customers fairly insurers must have a clear view of the likelihood of future rate increases when they sell a reviewable product.
Tracking historical data is the easiest part of the process, the real headache for the industry is to understand what's going to happen to future claims trends as medical science evolves.
