Risk modelling – what is it and how does it impact insurance?

You may have noticed that we sometimes mention ‘risk modelling’ in our Info Centre articles. But have you ever wondered just what this is and what it means for insurance cover? Curious? Read on…

We’ve said it before, and we’re saying it again – insurance is all about risk. In insurance terms, risk is the chance something harmful or unexpected could happen.

As a landlord, you may experience several risks when it comes to renting out a property including property damage, loss of rent, and liability.

As an insurer, we need to determine if taking on the risks a landlord faces is viable. It is only by doing this that we can make sound business decisions so that we can continue to effectively protect all our policyholders. This is where risk modelling comes in.

What is risk modelling?

Risk modelling estimates the amount of risk there is for an insurance policy. It is used to identify, assess, and quantify potential risks that an insurer might face. It helps the insurer determine the likelihood and impact of various events.

Why is risk modelling important?

Risk modelling enables insurers to manage its risk exposure effectively, set appropriate premiums, and ensure financial stability so it can continue offering cover and paying out claims.

What goes into risk modelling?

Risk modelling uses a variety of techniques to make forecasts of the likely losses that would be incurred for a variety of risks. This includes collecting and analysing relevant data points (including historical data), probability and other statistical techniques to help predict the amount of risk there could be in insuring something. The most commonly used risk factors are claims frequency and claims severity.

How do insurers use risk modelling?

Insurers use risk modelling to identify patterns and trends to inform who and what they can insure and how to price premiums. They analyse the data to estimate the probability and potential impact of different events occurring (for example, the likelihood of a tenant defaulting on rent or a natural disaster damage a property).

How does risk modelling impact premiums?

Risk modelling helps to calculate premiums. The premium will reflect the amount of risk there is for the insurer offering cover. The more risk there is for the insurer, the higher the premium is likely to be. For example, through risk modelling, if it is identified that a property is in a disaster-prone area, the premium to cover the property will probably be higher (because the likelihood of damage occurring is higher).

What impact has natural disasters had on risk modelling?

Historically, Australia has endured many natural disasters. Practically the entire country is at risk of one or more natural catastrophes. The frequency and severity of such extreme weather events have significantly impacted insurance risk modelling. For example, major hailstorms such as the one that hit Sydney in 1999, saw risk modelling refined. Analysis of this event found that the likelihood of severe hailstorm events in Sydney was higher than previously thought. This, in turn, led to the risk models being updated to reflect this increased likelihood.

To summarise

Risk modelling is fundamental for insurers. It helps them to better understand risks, informs decision-making, and enables them to better price insurance. Risk modelling provides the foundation for insurance policy coverage and the premiums charged for that cover. It is in everyone’s interests for insurance companies to do risk modelling and manage their own risk – so that they can continue to protect as much as possible, for as many people as possible.

EBM RentCover uses risk modelling when you apply for cover under one of our landlord insurance policies. To chat about cover options, please contact our Expert Care team – 1800 661 662.

*While we have taken care to ensure the information above is true and correct at the time of publication, changes in circumstances and legislation after the displayed date may impact the accuracy of this article. If you need us we are here, contact 1800 661 662 if you have any questions.