What Does Rate On Line Mean?
Rate on line (ROL) is the ratio of premium paid to loss recoverable in a reinsurance contract. Rate on line represents how much an insurer has to pay to obtain reinsurance coverage, with a higher ROL indicating that the insurer has to pay more for coverage. Rate on line is the inverse of a reinsurance contract’s payback period.
Rate On Line Explained
Insurance companies use reinsurance in order to free up additional capacity to underwrite new policies by transferring some of their liabilities to reinsurers. In exchange for taking on some of an insurer’s liabilities, reinsurers receive a portion of the premium that insurer’s collect on the policies that they underwrite.
Pricing reinsurance contracts require the reinsurer to examine a number of factors, including the insurer’s exposures and recent losses experienced by the industry. Reinsurers look at market benchmarks, including the frequency and severity of claims made. If the number of reinsurers is limited and historical loss experience severe, insurers should expect to pay more for coverage. This may push the insurer to adjust its underwriting activities by charging a higher premium or change the way it invests its premiums in order to maintain excess capacity.
For example, a property insurance company wants to shift some of its risk to a reinsurance company, specifically to cover the possibility that a catastrophic flood will drastically increase its exposure to losses. Both the reinsurer and insurer examine the severity and frequency of past claims, and decide on a contract in which the reinsurer will take on up to $20 million in liabilities. In exchange, the insurer agrees to provide the reinsurer with $4 million in premiums. The rate on line for this contract is calculated by dividing the premium by the coverage, with the result being a 20 percent rate on line. The payback period would be five years.
Rate On Line in Projecting Reinsurance Profitability
Rate on line is an important factor for reinsurance companies trying to determine if a proposed reinsurance contract would be a profitable business move. This analysis can become rather complicated when reinstatement provisions, expenses, and carry-forward provisions from earlier years are taken into account. Calculations become even more difficult when additional premium and profit commission percents change for each year or if coverage is canceled. Using a frequency distribution can help insurers and reinsurers visualize this data because the mean of the distribution is related to the "payback period" for traditional risk covers. The payback period can then be compared to the results of catastrophe models or other pricing analyses.