Actuarial analysis assesses the likelihood of risk for an investment and ways to lessen the financial impact of that risk. Actuaries analyze historical data to project future losses caused by risk, primarily for insurance companies and pension plans. They have interdisciplinary training and pass a rigorous examination process. Actuarial analysis is used to price insurance premiums and determine the amount of reserves needed to cover losses. It is not a perfect science, but the information provided is invaluable to an insurance management team.
Actuarial analysis is the process used by an actuary to assess the likelihood of risk for an investment and ways to lessen the financial impact of that risk. Actuaries have interdisciplinary training in mathematics, finance, and economics and have completed a rigorous examination process. They analyze historical data, looking for trends used to project future losses caused by risk. Analysis is typically used to price insurance premiums and to determine the amount of reserves needed to cover losses. Actuaries work primarily for life insurance companies, property and casualty insurance companies, and private companies that develop pension plans.
In many countries, such as the United States, the United Kingdom, and Canada, actuaries have at least a bachelor’s degree in mathematics, statistics, finance, or economics. They enter the workforce as actuarial assistants and gain experience while passing a rigorous set of about 10 exams in as many years, qualifying first as associates and then as peers. In other countries, actuarial science is taught in a master’s program, and upon completion, future actuaries join powerful institutes. Great emphasis is placed on continuing professional development to keep abreast of new developments in actuarial methods, as well as finance.
Similar to technical analysis that looks for trends in financial markets, actuarial analysis looks for trends in markets related to risk. One trend could be the effect on car accident claims of a new texting-while-driving law or the rise in the price of healthcare with the development of a highly effective but extremely expensive cancer drug. Actuaries analyze these trends along with recorded losses to model future losses.
Using traditional or other deterministic methods, an actuary’s model is used to find the actuarial rate or expected future loss resulting from a particular risk. This rate is used to determine a company’s reserves that cover future claims, as well as claims that have been incurred but are not reported. This information is also used as a guide for underwriters when setting pricing policies, especially for new or highly competitive markets. Actuarial adjustments to reserves and premiums ensure that an insurance company has enough capital to remain solvent.
Insurance companies are the primary setting for actuarial analysis, generally used to study mortality, morbidity, automobile accidents, and fires. Their role in financial institutions has developed as markets have become more volatile and exposed to more risk. Similarly, government policy makers and large corporations are interested in actuarial analysis to design pension plans and reduce health care costs. As the cost and frequency of natural disasters increases, the expertise of reinsurance actuaries is required to better understand catastrophic risk.
Actuarial analysis is not a perfect science, because it depends on the skill and experience of an actuary. In fact, incorrect assumptions called actuarial risk, particularly underestimating the frequency or severity of a loss, can be devastating to a company’s earnings. Despite these flaws, the information provided by actuarial analysis is invaluable to an insurance management team.
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