A recent whitepaper by InsurTech firm Akur8 has provided insights into how the Financial Conduct Authority’s (FCA) price walking ban could impact the insurance industry.
Akur8 recently conducted a webinar – which also included Munich RE – that examined the potential market impact of the new regulation and the expected changes insurers will have to implement on their pricing processes to be compliant.
According to Akur8, one of the key reasons for the introduction price walking ban rule was designed to shield consumers from unfair discrimination in the financial sector. The FCA has previously highlighted that six million insurance policyholders in the UK are currently paying a ‘loyalty penalty’, whereby insurers are charging higher premiums to their existing customers that the rates offered to new customers being acquired.
This practice was outlawed on January 1 this year, with insurance firms now no longer being able to charge higher premiums to their existing customers. What is the expected impact of this ban on the UK insurance industry?
Akur8 gave the example of the existing price gap between new motor insurance policyholders and existing ones, with new customers paying £285 compared to the £370 paid by customers of over 5 years – which constitutes a 30% ‘loyalty tax’ on the existing customer. This was also found in household insurance, where the loyalty tax can reach an eye-watering 83%.
This could impact the insurance market in the UK by putting more downward pressure on profitability margins. Currently, the UK is one of the most competitive insurance markets in Europe, with price comparison websites and direct players fuelling the competitiveness and putting downward pressure on loss ratios.
Akur8 remarked that in the short term, this regulatory alternation is further tapping into insurers’ profit margins and adding tensions by removing the profitability lever that was embedded in the price differences between existing and new customers. In addition, the firm stressed an indirect effect of the price walking ban on profitability margins may come from the increased complexity in an insurers ability to engage in price optimisation practices.
A second way the new ban could affect the UK insurance market is improved retention and less overall competition. Akur8 believes that once the ban is enforced, the urge to shop and look for discounts on price comparison websites will likely decrease. If this happens, it is likely incumbents and well-established insurers would benefit, offsetting the aforementioned slight downward pressure on margins by curbing ongoing new customer acquisition costs.
Insurer impact difference
Despite the expected impact of the ban, Akur8 believes not all insurers will be impacted the same, due to their market position, typology, how much they rely on price comparison websites and how they address their most competitive lines of business.
The company split insurers into four groups and how they are each likely to be affected across the dimensions of price optimisation relevance, legacy book importance over the next 6-18 months, their focus on retention and the role new products, covers and monetary benefits will play going forward.
The first group – incumbents – are multi-liners and will have the biggest legacy books. This group will defend their market position through maintaining efforts to gain market share while focusing on retaining existing customers. Most of them already leverage price comparison websites as a big distribution channel and are advanced in their pricing sophistication journey. Compared to incumbents, the second group – aggregator-focused insurers – tend to differentiate mostly on price and rely extensively on price-optimisation, meaning they will have to change their pricing strategy to adapt to a stable market.
The third group of non-insurance brands will have a strong competitive advantage due to the ability to leverage innovative benefits and incentives on top of traditional insurance products, as well as the ability to access customers through distribution channels not occupied by run-of-the-mill insurers. Speciality underwriters – the fourth group – are expected to see little negative impact from the ban due to its declining focus on price comparison websites and regular premium renegotiation.
Akur8 and Munich Re highlighted in the webinar that their conviction is that focused technical pricing sophistication approach and toolbox, leveraging advanced analytics, applied with robust methodology, will play a vital role in tipping the scales between the winners and losers in the post-price walking ban environment.
Navigating the change
How can insurers ride this wave of change? Akur8 said, “While it is expected that price increases will strongly deteriorate retention, price decreases will undermine profitability and generate only minor retention uplift. Given that pricing stability generally favours business renewals, and that insurers’ profit margins are mainly generated by in-force business, well established insurers should be all the more careful with price changes and ensure that any change is strongly motivated.
Another key challenge raised in the webinar was how insurers can enforce the changes while limiting backlash defending their market positions. Akur8 stressed price elasticity is front and center of the issue, with the first step being to analyse the price ‘from an elasticity approach’ looking at the pricing update effects of retention and conversion. This approach estimates the best trade off, Akur8 claims, between retaining existing clients and converting new clients based on cost and elasticity models.
Despite this, the firm noted an elasticity approach to price managing is sensitive to factors that can not always be accurately measured. For example, cross-selling dynamics can be key in boosting retention, but can rapidly increase complexity of a lifetime value computation, making it intractable. In addition, price elasticity provides an indirect estimate of the impact of pricing updates. The most accurate way around this for insurers is to directly review the impact of a planned rate change on their portfolio. During the rate updating process, insurers can analyse the impact of the change between old and new prices – an approach known as dislocation analysis. Akur8 mentioned this stands out as a ‘must-have’ in order to directly and accurately understand the impact of price instability on new customers.
Akur8 commented, “Overall, leveraging dislocation analysis allows insurers to directly visualize the expected loss ratio impact of their projected price changes and to get a refined understanding of the way each individual customer would be affected. They can then proceed to build a more accurate picture of what the “right” pricing approach for their customers would be under the new FCA landscape. “
Akur8 concluded, “The new FCA rule is a call to action for insurers to adjust their pricing processes and strategies, to minimize the potential toll on their profitability and protect their market shares. More than ever, actionable data-powered insights is the foundation to make the right pricing decisions.
“In this context, boosting pricing teams’ capabilities with advanced automated tools generating game-changing insights is a no-brainer: Dislocation Analysis is the way to go for insurers ready to take on the FCA-induced changes and ahead of the pack, while fearlessly committing to bringing more pricing fairness and transparency to consumers.”
View the full whitepaper here.
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