The technological revolution that has been disrupting finance is about to come to insurance with potentially dramatic results. A new generation of innovators is poised to apply Fintech solutions such as peer-to-peer transactions to insurance; in what might be called the InsurTech revolution.
The most revolutionary concept is peer-to-peer insurance; which utilizes the techniques of peer to peer lending. A peer-to-peer lender like Lending Club does not underwrite loans; instead it puts the loans on a platform. Investors review the loans and underwrite them as an investment.
A German company called Friendsurance has created a platform which allows policyholders to insure each other through small pools. The members of each pool underwrite each other’s policies with their premiums. If a claim exceeds the pooled funds, reinsurance makes up the difference.
The big advantage to this is that it allows private individuals to take advantage of the reinsurance market. The pools can tap the syndicates operated through companies; like Lloyds of London, for reinsurance in the same way that big business traditionally has.
One way this would work is to allow customized insurance for people with a similar level of risk, such as the young or persons that work in a particular field such as medicine. That makes it easier to reinsure the pools through the market.
Friendsurance aims to attract customers by paying cashback at the end of the year. if no claims are paid. The idea behind that strategy; which is used by some American insurers like Allstate, is to attract low-risk customers by rewarding them.
Friendsurance’s business model seems to be limited because only a few kinds of coverage are offered through its platform. Currently only home contents (homeowner’s or renters’ insurance in the United States), private liability and legal expenses policies are offered. The company seems to be avoiding some of the more complex areas of insurance; such as auto and business coverage, which indicates the limitations of its technology.
Behaviour based Insurance
A company that aims to overcome those limitations is the American start up Lemonade. Lemonade hopes to mitigate the inherent risks of peer to peer insurance with a behaviour-based business model.
The company has hired Dan Ariely; a professor of psychology and behavioural economics at Duke University, as its “Chief Behavioural Officer,” The Insurance Journal reported. Ariely’s job is to devise methodology that will identify dishonesty, fraud and other behaviours that increase risks.
Ariely thinks insurance can be reengineered to reward less-risky behaviour. The idea is hardly a new one, many insurers offer lower rates to customers that take fewer risks. Lemonade’s president; Shai Wininger, wants to take that concept to the next level by creating insurance policies that reward good behaviour.
Wininger did not say how this would be accomplished but hinted that Lemonade has proprietary InsurTech designed to achieve that goal. The technology might be rooted in Ariely’s belief that irrationality is predictable.
Dishonesty is a major threat in peer-to-peer insurance because policyholders might lie to cover up risky behaviour. Wininger and Ariely seem to believe they have technology; perhaps a computer algorithm, that can identify signs of risky behaviour and write policies accordingly.
The technology must be impressive because Lemonade has raised $13 million (€9.91 million) from investors, Insurance Journal reported. The company has lined up some respectable reinsurance partners; including Warren Buffett’s Berkshire Hathaway and some Lloyds of London syndicates.
Lemonade has also attracted some experienced leadership. Its current management team includes Ty Sagalow; a 25-year veteran of AIG, as Chief Insurance Officer. Fellow AIG executive Ron Topping and Robert Giurlando and James Hageman from ACE Insurance have joined the company in undisclosed roles.
It is not clear if Lemonade technology works yet because its website is currently under construction. News articles did not indicate if Lemonade has tested its solutions, or when its policies might be rolled out.
Google Abandoned InsurTech
The inherent limitations of InsurTech were demonstrated in March when Alphabet, pulled out of the field. The search engine giant shut down its insurance marketplace; Google Compare on March 23, Market Mad House reported.
The solution allowed shoppers to compare policies, credit cards and mortgages. Alphabet pulled the plug on Google Compare because it was not making any money off the policies it was selling.
The marketplace was unprofitable; because Google was unable to navigate the complex web of insurance regulations that exists in the United States. In America; each of the 50 states, has its own set of rules for insurance. Some states mandate completely different models of common types of coverage such as auto insurance.
That makes it difficult to write basic policies that can be easily offered through an online marketplace. Alphabet also shut down Google Compare in the United Kingdom, possibly because the business model did not work in larger markets like the United States or the European Union.
Another problem Alphabet was apparently unable to overcome was the inability to identify risk factors online. The technologists behind Lemonade think they have overcome that deficiency even though they offer no proof of their claims.
A major problem that Lemonade faces is convincing regulators to approve its products. That will be tough because some American states such as Michigan mandate so-called no-fault auto insurance; in which risk is shared by all drivers. Under that system, Lemonade’s behaviour-based business model might be illegal.
InsurTech revolution might be years away
The inability of such a well-financed and technologically adept company as Alphabet to operate profitability in InsurTech shows how limited present solutions are. It will take a completely different business model and years of trial and error to get peer-to-peer insurance to work.
Despite all the money and resources being invested in InsurTech; a workable peer-to-peer insurance platform is probably a decade away. Large scale disruption of the insurance market by InsurTech is not possible, without major improvements in the technology.
A true InsurTech revolution will take major investment; a strong commitment by large insurers, and new technological solutions. All of those developments are just beginning, meaning InsurTech is not yet a threat to the traditional insurance industry.