Question

1. Briefly describe two shortcomings of univariate methods in ratemaking and explain how multivariate methods behave with these two shortcomings.

2. Briefly describe why the adoption of multivariate methods has been increasing in the most recent decades.

Answer 1

1. The univariate method approaches to classification ratemaking whereby the loss experience of the levels within each rating variable is examined and compared in order to establish rate differentials to the current base level. The shortcomings of the univariate metjods are the following:-

• They do not accurately take into account the effect of other rating variables.
• This method does not consider exposure correlations with other rating variables.

If the rating algorithm only contains a handful of rating variables, the shortcomings would be mitigated with two way analysis or some manual adjustments.

In univariate, only one variable is summarized. But in multivariate, two or more variables can be compared. The multivariate method behave over the the two shortcomings of univariate methods. They accurately take into account of other rating variables. And also the multivariate methods exposure correlations with other rating variables.

2. Multivariate analysis is a tool used to find relationship between two or more variables. The adoption of multivariate methods is increasing in these days because:-

• It considers more than one factor of independent variables that influence the variability of dependent variables.

• the conclusion drawn is more accurate.

• The conclusions are more realistic and nearer to the real life situation.

• Analysis of small holder farmer with the technology adoption decision making needs the use of multivariate methods.

• To forecast investment outcomes in different scenerarios in order to understand the exposure that a portfolio has to particular risks.