Pricing | The Building Blocks

Rika Taute
Jul 2
3 min read

The Decision Question

When a pricing result changes, which building block moved, and does that movement make sense?

Default Practice

A common actuarial starting point in general insurance pricing is a set of time-series views.

The period may be monthly, quarterly, accident year, underwriting year, calendar year, or policy year, depending on the line of business, the data available, and the pricing question being asked.

The most frequently seen measures are:

Premium

Usually written, earned, or on-level premium. On-level premium adjusts historic premium to a common rating basis, so that past experience can be compared more fairly with current prices. Earned premium is often preferred when matching revenue to claims over the same experience period.

Exposure

The risk volume base. This may be policy-years, vehicle-years, sum insured, payroll, revenue, loan amount, or another exposure unit relevant to the product.

Frequency

Claim count divided by exposure. This shows how often claims arise from the underlying risk base.

Severity

Claim cost divided by claim count. This may be shown on a paid, incurred, reported, closed-claim, ultimate, capped, or uncapped basis.

Pure premium or loss cost

Frequency multiplied by severity, or losses divided by exposure. This is the claim cost per unit of exposure.

Loss ratio

Losses divided by premium. This is often used as the final high-level performance view because it compares claim cost with the premium charged.

The standard visuals are simple: line charts, small multiples, bars with an overlay line, and indexed views where the measures have different units. Frequency and severity are often shown side by side or on a dual axis. Premium and losses are often shown together when the question is whether price is keeping pace with claim cost.

This standard works because it is familiar and explainable. It gives enough structure for a pricing discussion without moving too quickly into model detail.

The strongest versions keep the pricing chain visible:

exposure creates claim opportunities;
frequency turns exposure into claim counts;
severity turns claims into cost;
pure premium brings frequency and severity together;
and premium needs to keep pace with the resulting loss cost.

Suggested Upgrade

The standard pricing-building-block visuals are simple because the question is foundational. Sophisticated pricing models still need these diagnostics. Public insurance commentary also continues to use them because they give non-actuarial readers an immediate grasp of the business story.

A common starting point is to show frequency and severity together. That view is useful, but it can hide two important questions:

Is the frequency movement credible given the exposure base?

A frequency increase means something different when exposure is stable, shrinking, or growing quickly.

Is the severity movement credible given the number of claims?

A severity spike based on a small number of claims needs to be read differently from a severity trend supported by a large, stable claims base.

What this makes visible

A sharper version keeps the same actuarial building blocks, but adds the denominators back into view:

show frequency alongside exposure;
show severity alongside claim count;
use one consistent time axis;
state the basis clearly in the chart title or subtitle;
label frequency as a rate, not just a claim count;
state whether severity is paid, incurred, reported, closed, ultimate, capped, or uncapped;
use indexing when metrics have different units;
annotate known breaks such as rate changes, mix shifts, large losses, claim definition changes, inflation shocks, or portfolio exits.

The Decision Boundary

The decision boundary is reached when a movement in the pricing result is credible enough to influence pricing action.

A change in frequency should be read with exposure. A change in severity should be read with claim count. Without those denominators, the chart may show movement, but it does not yet show whether the movement should change the price.

The practical boundary is crossed when the movement is:

supported by enough exposure or claim count;
explainable in business terms;
material enough to affect the pricing indication.

This keeps the standard pricing view focused on judgement, not just reporting.