Accident Year Loss Ratio: The Accident Year Loss Ratio measures the incurred losses and loss adjustment expenses from claims that occurred during a specific calendar year (regardless of when those claims occurred) divided by the earned premium for that same calendar year. Because claims for certain products take years to develop (late reporting, litigation development etc…) the accident year loss ratio measures the loss ratio for any given calendar year as it changes over time.
Direct Written Premium: Direct Written Premium is the total amount of premium an insurance company receives from policyholders for policies it has written directly, before any deductions for reinsurance.
Favorable Development: Favorable development occurs when an insurer reduces its prior period loss reserves (actual claims develop lower than what they originally estimated). This is called releasing reserves and it improves earnings. Due to it’s boost to earnings, favorable development is viewed as a positive by the industry.
Adverse Development: Adverse development occurs when an insurer increases its prior period loss reserves (actual claims develop higher than what they originally estimated). This is strengthening reserves and it reduces earnings. Due to it’s impact to earnings, favorable development is viewed as a negative by the industry.
Generally speaking, Insurance Companies target a ~65% loss ratio or less in order to achieve an underwriting profit. As the average net expense ratio for the industry is roughly ~30%, a 65% loss ratio put’s a carrier at a 95% combined ratio, which means they would generate 5% underwriting profit on their net earned premium.