“I’m writing a book. I’ve got the page numbers done.”—Steven Wright
At a few points in my career, I was responsible for product development for the life insurance carriers that I served as either a consultant or an employee.
With each product developed we had one great fear: that we would only sell a handful of policies. These, in turn, would require the companies to maintain them on the administrative systems, adjust the plan description files with each system modification, and require the company to report and track the profitability of even the small number of policies on the books until they lapsed or became claims.
The first thing I did in that role was ask our distributors what they thought was missing in our product portfolio. Then I asked my sales teams what they believed they could enthusiastically get behind in regard to a new product. Lastly, I met with our administrative teams and sought their advice, concerns, and ideas.
Then the fun began. I made an appointment at the State Departments of Insurance in my home state and in the neighboring states. I would show up with a box of donuts for the civil servants and begin reviewing the filed product forms of our leading competitors. The donuts were intended to grease the skids for all the photocopies I needed.
Armed with the suggestions of our home office staff, the dreams of my sales teams, the unrealistic expectations of our distributors, and a decent understanding of the competitive landscape, I produced an Executive Summary of a proposed new product. The next step—approval by senior management.
At that point our actuarial team took over. I provided them with competitors’ rates, product performance comparisons, and product feature summaries.
In a short while, I could hear the numbers crunching.
Life insurance is many things but, at the bottom, it is about numbers. Math.
The number of ants alive on the earth right now is estimated at 1016 (ten thousand trillion). This educated guess means that there are roughly one million times more ants than the number of people alive today (approximately 7.5 billion). In a happy coincidence, individual ants vary in weight between one and ten milligrams, which means “the remarkable result of these several guestimates together is that all the living ants weigh about the same as all the living humans.”1
There exists, therefore, a rough biomass equivalence between ants and people.
(Lest we get too impressed, the total mass of either all ants or all people would fit within a cubic mile of space, an area that could nearly be hidden in remote portions of the Grand Canyon.)
Question of Importance: Do educated guesses really matter? (Think COVID-related cases, hospitalizations, and deaths.)
“Crucial to the making of almost anything is the matter of its measurement. In English, this usually involves the use of the near-invisible adverb how, with its interrogative determination of to what extent and to what degree something might be. How long is it, how massive, how straight an edge, how curved a surface, how hard, how close the fit?”2
Today, most of the world utilizes the International System of Units (SI). This system, adopted by all countries except the United States, Burma, and Liberia, “defines the seven fundamental units of length, mass, time, electric current, temperature, amount of substance, and light intensity—otherwise known as the meter, the kilogram, the second, the ampere, the kelvin, the mole, and the candela.”3
In addition to these physical measurements, manufactured things possess geometrical characteristics, such as straightness, flatness, circularity, cylindricity, perpendicularity, symmetry, and parallelism. In the world of engineering, these physical and geometrical characteristics are measured to the finest tolerance, that is, the least permissible variation in dimensions or geometry.
According to a definition from The American Society of Mechanical Engineers, the industry standard, ASME Y14.5M, tolerance is “the total amount a specific dimension is permitted to vary. The tolerance is the difference between the maximum and the minimum limits.”4
Example: If an ideal part is to be 0.5 mm +/- 0.1mm, any resulting product between the range of 0.4 to 0.6 mm will be acceptable; the rest will be rejected.
Tolerances may also be expressed with any number of decimal places. The more decimal places are included, the stricter the tolerance is.
Example: Four decimal places, expressed as (.000x), (e.g., ±0.0005″).
Question of Importance: Aren’t you glad that there are rigorous requirements for precision manufacturing, especially for something as important as aerospace parts (think, jet engines) where a variation of just a few thousandths of an inch can lead to equipment failure or worse?
Guesses, Precision, and Importance in Financial Services
Products in financial services require adequate pricing in order to be both marketable and sustainable. In the life insurance industry, the elements of product pricing include mortality, interest rates, expenses, sales compensation, and lapse assumptions. Annuities, disability income and long term care products require similar pricing assumptions with the addition of morbidity.
Getting these assumptions (guesses) wrong can have devastating results.
Example: Long term care.
Paying for long term care is one of the greatest financial risks Americans face in retirement. Studies show that one-in-five individuals can expect to spend more than two years in need of long term care. This exposure represents a significant financial risk.
Back in the 1980s and 1990s an increasing number of insurance carriers began offering LTCI to fund out-of-pocket payments by the elderly and their families. By the mid-to-late 1990s more than 100 companies were selling policies to individuals and employer groups. “In 1990, 380,000 individual policies were sold; by 2002, 755,000 policies were sold in that year.”5
“In 2003, the pattern of annual increases in sales came to an abrupt end. In fact, LTCI policy sales began to decline rapidly. Between 2003 and 2009 individual policy sales declined by nine percent per year. Thus, in 2009, fewer policies were sold than had been sold in 1990. Moreover, while in 2002 there were 102 companies selling policies, by 2009 most of these companies had exited the market; that is, they had stopped selling new policies.”6
Question: It is worth asking, if the need is important, and the marketplace is growing, why would sales plummet and companies exit the product space?
Certainly, the companies entered the market because they believed it represented a profitable opportunity. “Many companies entered this market to take advantage of an opportunity that they knew existed, even if they were not completely certain about how to exploit it profitably. For 40 percent of the companies that left the market, their initial business strategy was to grow modestly in order to learn the business and improve their management of the product over time. Only 16 percent had aspirations of becoming market leaders.”7
It all comes down to math. (And wrong guesses.)
“Regarding the pricing of early policies, there was little basis on which to develop an estimate for future morbidity (i.e., the chance that someone would develop a condition that required use of long term care services) in the context of private insurance. In order to price these early policies actuaries relied on national data sources like the 1977 and 1985 National Nursing Home Surveys.
For other pricing parameters, like voluntary lapse rates and mortality, there was a reliance on the experience of Medicare Supplement policies and standard mortality tables. For this reason, voluntary lapse rates priced into initial policies were much higher than what they ultimately turned out to be. (In fact, there is no other voluntary insurance product in the market that has experienced lower voluntary lapse rates than what is found in LTCI policies.)”8
The math is important: “Even small errors on multiple assumptions can lead to major changes in the product’s underlying profitability. All of the major determinants of premium and product profitability have been going in the wrong direction: Interest rates are significantly lower than what was priced for, voluntary lapse rates are lower than for any other insurance product, morbidity is somewhat worse than expected and mortality is actually improving.”9
Distribution Influences Math
I had a hand in developing many different types of life insurance products, including whole life, current assumption whole life, universal life, level term, and indexed universal life. We made many educated guesses and relied on less-than-precise models. We did, however, focus on the important. Here are what we deemed important:
- The product would be sustainable. It could remain on the shelf indefinitely and not impact the bottom line negatively.
- The product met a definable need in the market. There was a real person with a real need that the product was designed to meet.
- The company had the administrative systems to service the policyholders who bought the products. The policyholder could expect, and receive, satisfactory service in terms of time standards, accuracy, and dependability.
Over the last several decades, insurance carriers, brokerage general agencies, and independent financial professionals have all alike pushed the knife edge of competitive advantages deep into the heart of long-term profitability for life insurance, annuities, disability income, and long term care products.
LIMRA and NAILBA collaborated on a tremendous survey published early in 2022 entitled, Inside the Intermediary: BGA and IMO Survey Results. They surveyed 60 BGAs and IMOs, over 400 independent life insurance and health producers, and eight senior executives from BGAs and IMOs. I was interested in what the independent producers said was their number one reason for placing business with top carriers: Product pricing.10
Insurance carriers know that every product they introduce is ubiquitously quotable in comparison with all other like products. The competitive pressure requires actuarial precision.
Question: Does the distribution system’s expectation of ever-improving product performance, lower rates, and new features obscure the importance of reaching more people with the necessary coverage and protection? In other words, rather than always seeking the so-called best product, do distributors lose sight of the pressing need to find new unprotected customers?
Underwriting Influences Math
In February 2021, Deloitte published an article entitled, The Rise of the Exponential Underwriter. Underwriting is partially about guesses, but mostly about math. Underwriting manuals have always been compendiums of experience-driven classifications. “Traditionally, underwriters have utilized decades of static, historical information to develop rules and guidelines to assess risks.”11
There has never been the opportunity like now for underwriting to apply an innovative application of technology, AI, and data analytics. The article defines “exponential underwriters” as those utilizing “new data sources and advanced technologies to augment human underwriters to a degree never seen before.”12
“In life insurance, while historical health records would continue to be essential, insurers may get a more comprehensive and current assessment by tracking predictive data variables via fitness wearables and social media.”13 This, in turn, will create pricing relief through greater efficiencies.
All the guessing is getting more sophisticated!
In the insurance business, and particularly in independent distribution, success is a function of right guesses, precision when needed, and focus on the important. These responsibilities are shared between the home offices and the distribution partners.
We can overemphasize precision—the numbers—to the exclusion of the important—the people. Steven Wright’s quip implies that what goes on the page is far more important than the page numbers.
Similarly, the number of people owning our industry’s products far exceeds the value of making sure only a small number of people have the very best rate.
Faces, not facts, are what we need to always keep in focus!
- “Tales from the Ant World,” Edward O. Wilson, Liveright Publishing Corporation, 10/05/2021, ISBN-13: 9781324091097.
- “The Perfectionists: How Precision Engineers Created the Modern World,” Simon Winchester, Harper; 1st edition (May 8, 2018), New York, NY, ISBN-13: 978-0062652553.
- LifePlans, Inc. (2012). 2011 Long-Term Care Top Writers Survey Individual and Group Association Final Report, Waltham, MA. March.