REU 1998 – Optimal Cession Strategies

In Massachusetts, auto insurance rates are set by the state and no company can refuse to insure any customer who walks into its offices. On the other hand, the companies do have the option to “cede” policies that they believe are too risky to a state agency called CAR (Commonwealth Automobile Re-insurers). When a policy is ceded, most of the premium, and all of the losses, are passed on to CAR.

The problem then is to decide who to keep and who to cede and the objective is to maximize the company’s final profit.

The twist in the problem is that ceding policies is not free. A company pays CAR an amount at the end of the year which depends on not only how many vehicles the company ceded, but also on the cession behavior of the rest of the companies in the state for that year.

The REU project focuses on the statistical aspects of the prediction problem.