Most people think an insurance quote is the finish line. But as Charles Johnson explains, it’s actually the starting point of a complex strategy, where actuaries turn data into insight.
When most people shop for insurance, the process is simple. You hop online, punch in a few details, or maybe contact an agent your friend recommended. After a brief conversation or form submission, you’re presented with a few options—quotes with premiums, coverages, and maybe a deductible slider. You pick one, click buy, and you're covered.
But from the insurance company’s perspective, this interaction is only the tip of the iceberg. Behind that quote is a complex and highly strategic process designed to manage risk, balance expenses, and maintain a competitive edge. Understanding this process can give aspiring actuaries a real-world lens into the business of insurance.
The Premium Pie: Breaking It Down
Think of your insurance premium like a pie. It’s made of three main slices:
- Operating Expenses
- Acquisition Costs (Marketing & Commissions)
- Expected Losses (Risk)
Let’s go through each.
1. Operating Expenses – The Cost to Stay in Business
Every insurance policy comes with overhead: the cost of customer service, technology platforms, regulatory compliance, claims handling, and general admin. These costs are largely fixed. So, the more policies an insurer sells, the more those costs are spread out (think economies of scale).
Actuaries and pricing teams help determine:
- How low can we price while still covering expenses?
- How many policies do we need to break even?
Undercutting competitors can help capture market share—but it also compresses margins. It’s a balancing act between being competitive and staying profitable.
2. Acquisition Costs – Getting You In the Door
Whether through flashy ads or agents working one-on-one with clients, insurers have to acquire policyholders. That takes money.
For simple products like renters or auto insurance, online ads and instant quotes work well. But for more complex lines (life, health, commercial), agents bring expertise—and they expect commissions.
Insurers not only compete on price but also on commission structures to ensure agents prioritize their products. A company with a higher commission might win over an agent, even if their premium is slightly higher.
3. Risk – The Heart of Insurance
Now comes the most technical slice of the pie: risk. This is where actuaries play a starring role, and it can be split into two stages:
Risk Identification: What’s the True Exposure?
This is all about understanding the variables that influence potential claims. For auto insurance, it could be your car’s make, your driving history, or where you live. For health or life insurance, it may include medical records, prescription databases, or even credit scores.
Some data is self-reported; other data comes from third-party vendors. The goal is to build as accurate a picture of your risk as possible—before anything goes wrong.
Risk Categorization: Strategic Pricing & Selection
This is where the real game begins.
Suppose an insurer develops a proprietary risk metric based on data no one else is using (like subtle driving behavior from telematics). Two customers, A and B, both look the same to the broader market—but internally, the insurer knows A is a safer risk.
What do they do?
- Price A more competitively to attract them.
- Price B slightly higher to deter them.
Over time, this leads to what’s called favorable selection. The company attracts more “good” risks and avoids “bad” ones. Competitors—who don’t see the hidden difference—end up with worse risks, higher losses, and eventually higher premiums.
This feedback loop can create a long-term competitive advantage for insurers with better data and smarter categorization.
Key Takeaways for Aspiring Actuaries
- Consumers think about coverage and cost.
- Companies think about risk segmentation and portfolio balance.
- Actuaries sit at the center of this tension—balancing competitive pricing with long-term profitability.
- The better a company identifies and prices risk, the more strategically it can grow (and survive market cycles).
So next time you see an insurance quote, remember: that price isn’t just a number—it’s the output of thousands of calculations, strategic trade-offs, and data-driven decisions.