Value and Capital Management: A Handbook for the Finance and Risk Functions of Financial Institutions

Chapter 24Risk Underwriting – Technical Tools

In addition to a clear underwriting strategy and governance organization, technical underwriting tools are valuable to evaluate, segment and price the risk of each applicant or transaction.

Using the right underwriting tools can lead to substantial benefits, defensively in terms of reducing average losses and the volatility of losses and offensively by giving greater confidence in writing and growing business in higher risk segments. In addition, they can lead to higher customer satisfaction and greater cost efficiency if appropriately integrated in the business system.

There are three, broad technical underwriting approaches aligned with the three different segments:

• data-driven or “scoring” approaches for segments where sufficient data exists to build robust predictive models (e.g., retail or personal lines);
• evaluation-based, expert judgment approaches for segments where there is insufficient data to build reliable models (e.g., commercial and corporate);
• transaction-specific approaches suitable for structured solution businesses.

Retail Segment: “Scoring” Models

Mature retail insurance and lending businesses typically have sufficient historical data to develop robust predictive models in support of risk underwriting (“scoring” models).

Business Uses and Benefits

Scoring models are predictive models using explanatory variables such as income, gender, etc. to “separate” good customers from bad customers. An example, discriminant ...