Why Insurance Firms Get Creamed (And How To Prevent It)

collaborative post

Insurance companies need to be careful. The only way they stay in business is if they balance their risks with their income. 

The problem, of course, is that the real world is a messy place. While actuarial tables might say one thing, reality often says another. 

In this listicle, we run through some of the reasons insurance firms get creamed and what they can do to protect themselves from the inevitable dangers that will always come their way. 

Underpricing Risk

One of the biggest problems is underpricing risk. Many insurance companies just don’t have a good grasp of how expensive some events can be. This was a problem during floods in Texas and firestorms in California. 

The trick here is to understand non-normal distributions. While most events might follow a normal pattern, many don’t. Some are log-normal or follow completely different distributions entirely. 

Therefore, understanding these is critical. Insurers that can get their heads around non-standard actuarial approaches and learn the mathematics will put themselves significantly ahead of the competition. 

Misunderstanding Catastrophic Losses

Related to the last problem is the risk of catastrophic losses. Many insurers simply don’t understand how large these can get, again because of the non-normal nature of the distribution. Some flooding events can be 100 times more costly than others, even if the amount of rainfall is only double. 

To deal with these problems, large capital reserves are critical. These can be invested in safe assets during the interim, but they should be there. Inflation risks should be minimized through any means possible so the insurance brand can retain integrity when payouts occur. 

Using Legacy Technology

Insurance firms also get creamed for using legacy technology when they shouldn’t. Many have systems from thirty years ago which are hopelessly outdated and can’t deal with modern operational requirements. 

The solution is to use cloud-based systems and proper mathematical models. Insurance investigation software is also a good idea to reduce the risk of client fraud. Many companies will literally stage events to claim insurance. 

If you can deliver holistic data governance, that’s essential. You want a combination of quality and consistency, allowing you to integrate data across your organization. 

Customer Trust Issues

Many insurance companies also have significant customer trust issues. Clients often wonder why they bother paying premiums if insurers can refuse to pay on a whim. 

This issue is bigger than many insurers appreciate. Those who refuse to pay out can get themselves into a lot of trouble and actually lose more than the nominal savings. 

The best way around this problem is to improve claims management. Customers should know the rules and understand where they stand. 

For this reason, it can help to explain to them when they won’t be able to make a claim at the outset. This sort of education is annoying, but can prevent disappointment in the future. If customers want additional protection, they should have the option to pay for it. Ideally, you should provide the customer with the product they want, even if it is more costly.