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Actuarial Modeling

How Competition Benefits Actuaries, Their Employers, and the Industry

Pop quiz, hot shot: What do Top Gun, The Karate Kid, and Bring it On have in common?

(Besides being classics that everyone should know, love, and watch on the regular.)

Well, they’re all about competition. That us-against-them battle that happens everywhere and in virtually every industry.

Competition pushes people to do better. To achieve more than they ever thought possible. To come out on to, to innovate, and to do better for their customers.

Competition in business drives excellence in practice, which results in better outcomes for all those involved. Forbes listed five benefits for businesses in a competitive market, such as forcing innovation, improving customer service, and eliminating complacency.

Harvard Business Review has a whole host of articles on the subject, in case you need more proof that competition is actually valuable.

We all obviously know that there’s competition in insurance marketplaces. Term Life insurance is probably one of the most competitive products out there, because it’s so easy to see what the competition is doing, and try to beat them at their own game. Buying life insurance online used to be a dream, but now there are dozens of companies who sell insurance online and only online, like Bestow, Ladder Life, and Sproutt. Making products available online gives consumers more access and cheaper products (generally).

It should be pretty clear that competition is understood as a good thing for a choice-based economy, and, as such, we won’t belabor the point.

But in case you thought actuaries are immune to the effects of competition, well, maybe you haven’t applied for a new job recently, have you?

We’ve seen quite a lot of discussion from the actuarial societies recently about how data scientists are encroaching on the actuarial space and we (as actuaries) should be worried.

In this article, however, we’re going to talk about a space where there isn’t a lot of competition, and, more importantly, why that’s bad for actuaries and their employers.

We’re talking about actuarial software, and if you’re reading this, you can probably name on one hand the traditional players in this space for life and annuity actuaries. There’s Prophet, Axis, ALFA, and TAS. And SLOPE, of course.

That’s it. Less than half a dozen competent names who are all dominating the industry. 

Is that enough competition?

There are other places where there’s a small set of leaders. The Big Four in accounting, for example: Deloitte, KPMG, EY, and PWC.

But the fact that there are such big names certainly doesn’t stop other consultants from hanging out their shingle. According to Ibis World, there are over 800,000 management consulting businesses in the United States alone. So the existence of the Big Four certainly doesn’t exclude others from also providing a valuable service.

And in virtually every other industry – higher education, automotive, engineering, even philanthropy – there are a multitude of options for how to get done what you want to get done.

There are hundreds, if not thousands, of project management tools. Enough that “the best” lists are from 20 to 50 items long! There are hundreds of different programming languages. Again, so much variety to choose from that it’s quite easy to find plenty of options that will fit an end-user’s budget and have the functionality desired.

But in actuarial software? That’s a much more limited market.

Why the actuarial software market is so thin

So why might this exist? For a few reasons, actually.

Significant requirements

First, actuarial software has to do so many things. From projecting actuarial cash flows, to tracking investments, to potentially allowing options for stochastic modeling, the sheer number of tasks that actuaries ask their models to do means that it’s very difficult to get everything within one system.

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And life insurance insurance policies are very long-tailed. The rules applicable to policies on the books today may have been created in the 1950s or before. Which means those systems need to not only cover today’s regulations, but offer flexibility to support a vast array of reserving methods, policy features, and expense structures, etc.

Those together create a pretty significant barrier to entry. Meaning anyone who is looking to get into the market had better make a pretty substantial commitment to doing it right. There’s not a lot of ways to easily carve out a place in a niche market.

Small market opportunity

The actuarial market is somewhat limited, too, which puts a bound on upside potential. With only about 100,000 actuaries in the world, the market itself isn’t nearly as broad as project management or programming (to continue with the examples we introduced earlier). Those have millions of potential users. As a result, the business opportunity is just that much greater in many other places and very thin within actuarial software.

Which means it’s not so potentially lucrative an option to work hard at developing software with limited upside.

Transitions are difficult

In other industries, marketing teams talk about “rip and replace”, in which one thing is ripped out of production and replaced with another. For example, suppose your restaurant currently serves Coke products, and you decide to switch to Pepsi. How hard would that be? You can “rip” that out quickly, and “replace” it with the alternative in probably a day.

But for actuarial models? Certainly not. Some conversions take years, thousands of hours of professional time, and millions of dollars.

[We continue to argue that such timelines are generally the fault of the old system, not the new one.]

As a result, there isn’t that much incentive for firms to pursue new alternatives, further constraining the prospects for actuarial software development.

Actuarial software systems therefore become “sticky”, in that the pain of converting models to a new system is greater than the pain of reduced productivity in the old system. Which decreases appetite for new entrants, further constraining demand for new offerings.

How that affects actuaries

So what? You might ask. So there are only a few options available. We can do what we need right now, so why bother looking for something new?

We’re glad you asked. Having limited options is a bad thing for both actuaries and their employers. Let’s take a look at these in turn.

Actuaries are forced to use less-advanced tools

With the constant evolution of the market in other industries, new competitors will be offering new functionality or a better user experience all the time. If they don’t, they’ll quickly lose market share and be forced to advance.

But since actuarial tools haven’t traditionally moved very quickly, often actuaries are using technologies that may have been leading-edge decade ago but haven’t kept up. Which leads to lower productivity (than actuaries think they should be able to provide) and the second negative:

In order to correct for system deficiencies, actuaries are sometimes compelled to develop solutions they are not qualified to develop

This could be a data pipeline, or some ETL processes, or perhaps some extra model-to-actual visualizations that are outside of the original model. Or even just an Excel spreadsheet that starts as a quick way to answer a one-off question and somehow morphs into a pricing model that it was never intended to be. Risk in that process? Definitely. Could it have been done better? Absolutely. Was it a Frankenmodel built out of necessity? We’ve all been there and know it’s not the best way to do it.

The point is, when actuaries are doing non-actuarial things (like developing software, for example), it is an inefficient application of skills on both sides. Actuaries should be doing analysis and risk management things, and data engineers should be building pipelines. To have actuaries take on tasks they’re not qualified for ultimately means lower quality results in the future.

Actuaries are limited in their job prospects

If you know one system, and one system only, what are your options?

With only a few different players, and each one having about a quarter of the market, you as a job-seeker are limited to only that quarter of the market.

Again, if we compare to programming, once a professional learns programming theory, they can apply their knowledge to quickly learn a new programming language. This gives them virtually unlimited options when they look for new projects, new employers, or new tools for a specific problem.

Actuaries, on the other hand, can feel constrained by the fact that they only know one type of system, and must therefore look to apply that specific knowledge. Instead, what if actuaries knew “actuarial software theory” like they know actuarial mathematics, and could quickly learn a new way of getting Cash Flow Testing results within just the first week on the job? Wouldn’t that open up a lot more opportunities for those actuaries?

Which leads directly into the next topic.

How lack of actuarial software options affects actuarial employers

It might come as a surprise, but the thin software market affects employers, too, whether they be direct insurers, reinsurers, consultants, or regulators.

Inefficient production

One big thing is that those actuarial employers don’t get the quality of output they could. While new actuaries are taking six months or a year to learn a system, they’re not being productive for that whole time. For example, a client used to have a pricing cycle that ran for two weeks. After implementing a modern actuarial system, their cycle was cut to four hours. [Read the case study here.] When initiatives take inordinate amounts of time to complete. there’s going to be much less incentive to actually pursue those kinds of projects.

Which means the business isn’t as efficient as it could be. The risks are not managed as well as they could. And there are possibly vulnerabilities in the models that don’t get talked about, because they’re not inspected frequently. It’s often assumed that “what you don’t know can’t hurt you”, but, for latent model errors, that’s not necessarily the case.

Limited talent options

Second, hand-in-hand with the limits for actuaries as individuals, their employers have a limited pool of applicants for open positions.

Everyone is talking about diversity of experience and skills building smarter, stronger teams. But when the applicant pool is only one-fourth as broad as it could be, because most of the other potential employees know the “wrong” software, it’s much less likely they’ll find a good fit.

The thing is, since this has just been “the way things are” for so long, most employers of actuaries don’t recognize that a slim candidate pool is actually detrimental to their team’s productivity.

That could be because they’ve only ever used one system, and so can’t even conceive of other ways to get better results using a different system. With that limited mindset, it’s no surprise that the potential goes unfulfilled.

Restricted options for promotions or new initiatives

Finally, the inability to apply base modeling concepts to new software applications can lead to stickiness for actuaries in their current jobs. This may end up being a negative for actuaries in their current positions because they wouldn’t want to invalidate all the learning they’ve had to do to get to competence with their current system.

Which may mean less opportunity to develop, grow, and challenge lower-level actuaries. This limits the output of the group, making it less likely that the right people are on the bus in the right seats, getting better and better results as they go.

What can be done?

Well, actually, and it might seem counterintuitive, but we invite more competition into this space.

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It’s hard to build a new system, yes. And there are some pretty substantial entrenched interests, to be sure. But the only way that the actuarial work of the future is going to get done better than it’s getting done now is for actuaries to have the tools and capabilities they need.

Not what was implemented ten, twenty, or thirty years ago. And hasn’t been changed since. 

Innovation, ingenuity, and an entrepreneurial mindset are also essential. Those are skills for the individual actuaries to pursue and develop on their own.

Yet it is incumbent on the software providers to also do their part. We must continue to innovate, offer new functionality and usability, and give actuaries the tools they really need in order to do the job they signed up for. If we’re not getting it done, then someone else should.

Which gives actuaries a much better experience and results in a higher bar for the future. Meaning, everyone’s experience is continually getting better.

What might the actuarial software options look like in the future?

First of all, there might be some real alternatives to Excel. Currently there are a few, but not a lot of commercial options. Which means actuaries are often left to build their own models and model governance systems themselves. Which, we admitted above, isn’t always the greatest thing for actuaries to be doing anyway.

And second, there might be more than ten or twenty commercial actuarial systems available. These would give users some real options along the various dimensions of a system [link to dimensions of actuarial system selection]. Currently, because of the limited market, users are often compromising the things they want for other features they need. With a broader market, there’s a good chance that users would be able to get both, because the competition between those vendors is constantly driving new innovation in technologies under the hood, functionality, and user experience.

Conclusion

We’ll leave you with this (apocryphal) quote from Henry Ford.

Image from https://paper.studio/2017/06/08/explaining-user-research-to-skeptics/

Remember, actuaries are consumers of actuarial software. But just thinking that what you’ve got right now (“horses”) and want that a little better (“faster horses”) is going to solve your problems is limiting. You need new tools, new ways of viewing the world, and new options for how to address the challenges before you. Those only come when there is competition pushing the limits to deliver for those consumers.

You have a say in the future of the industry. If you don’t like your options, lean on your vendors to do more. If you don’t know what’s available, perhaps you take a look at another option.

Sometimes, you need to be shown what’s possible before you know you want it. And the only way to explore the whole universe of possibilities is to invite competition and challengers. We are challenging the status quo of actuarial software, and welcome others to do the same.

Let’s make the actuarial experience better together.