Identifying the determinants of lapse rates in life insurance: an automated Lasso approach

Abstract

AbstractLapse risk is a key risk driver for life and pensions business with a material impact on the cash flow profile and the profitability. The application of data science methods can replace the largely manual and time-consuming process of estimating a lapse model that reflects various contract characteristics and provides best estimate lapse rates, as needed for Solvency II valuations. In this paper, we use the Lasso method which is based on a multivariate model and can identify patterns in the data set automatically. To identify hidden structures within covariates, we adapt and combine recently developed extended versions of the Lasso that apply different sub-penalties for individual covariates. In contrast to random forests or neural networks, the predictions of our lapse model remain fully explainable, and the coefficients can be used to interpret the lapse rate on an individual contract level. The advantages of the method are illustrated based on data from a European life insurer operating in four countries. We show how structures can be identified efficiently and fed into a highly competitive, automatically calibrated lapse model.