Dynamic Pricing in Insurance Using AI

Turn on a football game and there are at least 5 insurance companies trying to get their products to be ‘top of the mind’ for the same customer. For instance, Progressive spent $1.9 billion on advertising in 2020, Geico spent an estimated $2.26 billion. Post pandemic, insurance carriers are reassessing their marketing budgets and how they communicate with customers. Priorities have shifted towards accelerated underwriting and faster processing of claims in making the product distinction. It is also more important to be able to predict customer behavior and their intent and personalize marketing outreach.

Budgets are being evaluated differently to embrace a future that will see smart marketing as well as dynamic pricing that meets market realities, both supported by implementing a powerful AI strategy.

Let’s keep the focus here on artificial intelligence-powered dynamic pricing and the advantages it brings. Benefits are many such as cutting short from months to mere weeks, the introduction of new policies to market. There is more.

The traditional method of premium pricing

Traditionally, insurance premiums are set using a cost-plus model. Every insurer knows what it involves but let’s still briefly touch upon it. The cost-plus model is an actuarial assessment of the risk premium and adding on a percentage to cover direct and indirect costs and including a small profit margin.

In property and casualty insurance, particularly in the auto and home insurance sector, this cost-based pricing model still is common. However, times are changing and traditional pricing has a few drawbacks that make it a hurdle towards future-readiness. The challenges that traditional pricing models are facing are:

• Price and feature comparison websites: There is no bigger threat to existing pricing models than websites that are aiding customers to compare policies by price, value, and benefits. It is no surprise then that consumers choose the lowest offer. In fact, the drill-down benefits offered by these sites make evaluating hundreds of insurance products a piece of cake. This is because these websites are using disruptive technologies like AI to provide answers in a matter of seconds.
• Consumers demanding personalization: Customers are open to new pricing models based on personalization. The IBM Institute for Business Value (IBV) in their study, revealed that customers are more responsive to tailor-made products. The problem here is that the traditional pricing models were built for groups and not for individuals. Making this change will require not only a change in processes but also the implementation of advanced technologies and the breaking down of data silos.
• New insurance entrants: These digitally powered insurance start-ups have no legacy issues to deal with. They come offering products that are built with advanced technology. Their dynamic pricing is an inherent part of their offering and is grabbing the attention of Gen Z and many millennials as well. Gen Z will one day be the biggest slice in the customer pie. The right time to grab their attention is now.

Dynamic pricing in insurance is creating policies that are cheaper for low-risk customers. High-risk policyholders have a different premium model that is again divided based on various factors and user behaviors. For instance, infrequent drivers will pay lower auto insurance, while those driving more frequently on highways will pay a higher premium. Within the latter group, premiums can again differ based on their driving behavior(e.g. how many times do drivers shift lanes) and speed limits adhered to. These are only a few potential factors, there are actually hundreds of signals that can go into dynamic pricing.

If insurance carriers continue to use a limited set of risk differentiators, they will find that the majority of their clients will fall into the riskier and hence less profitable group. The younger group of digitally advanced clientele would have moved to carriers who dovetail their policy plans with smart pricing that is designed for rapid deployment.

Read more about The 3 steps towards implementing AI in insurance pricing

Originally published at https://www.simplesolve.com on November 16, 2021.