Reserving and claims estimation
This domain tests estimation of outstanding claims, IBNR, IBNER, case reserves, development patterns, discounting and the communication of reserve uncertainty.
Methods and assumptions
The chain-ladder method applies age-to-age development factors to cumulative paid or incurred claims. It assumes stable development patterns and that past development predicts the future. Bornhuetter-Ferguson blends expected loss ratio with reported experience and is more stable for immature years. Frequency-severity methods model counts and average cost separately. Case reserves are the claims handler's estimate; IBNR covers unreported claims and development on reported claims. ULAE, reinsurance recoveries, claims inflation and discounting must be addressed.
Worked example
Cumulative paid claims are INR 100 at 12 months, INR 150 at 24 months and INR 165 at 36 months for accident year 2023. Accident year 2024 has INR 110 paid at 12 months. The 12-to-24 factor is 150/100 = 1.50; the 24-to-36 factor is 165/150 = 1.10. The 2024 ultimate is 110 x 1.50 x 1.10 = INR 181.5. The outstanding reserve is 181.5 - 110 = INR 71.5. This assumes the selected factors are appropriate for 2024.
Traps
Do not mix paid and incurred triangles. A case reserve change is not IBNR. Averaging factors across dissimilar years can hide a trend. Do not forget ULAE and reinsurance recoveries. Discounting without matching asset returns misstates the liability.