What Does an Actuary Do?

A good friend of mine is an actuary. I've known him for nearly 20 years, but have never really understood what he does at the office. I'm guessing a lot of you also know actuaries, or other friends who do things that you're clueless about.

I'm hoping to run a short, sporadic series of posts on such vocations. So if you have a suggestion, by all means, drop a comment, and I'll see if I can find an expert to give us the skinny. Also: if you're employed in some bizarre, random field and feel like letting us know about it, leave a comment and I'll be in touch with you.

My friend, who prefers to remain anonymous, works for one of the big four accounting firms. Over the last 15 years or so, he's been constantly taking, passing (and sometimes failing) these actuarial tests, which aren't required, but help you move up the ladder in the field. When I asked him what an actuary does, he said something like this: If a school bus company goes to an insurance company for a policy, someone has to compute the odds of the bus getting into an accident, based on climate, distance from the school, etc.

But that really didn't satisfy my lust for detail, so I had him write on the subject, and this is what he came up with:

There are several different kinds of actuaries, ones specializing in life insurance, health insurance, pensions, and property-casualty insurance. They really are almost completely different disciplines. Some commonalities, especially regarding early basic knowledge (a few of the early exams are offered jointly by the various actuarial societies), but I'd say they're as different from one another as different branches of physics or engineering are from one another. I'm a property-casualty actuary. The most common thing that we do is make estimates of the ultimate outcome of insurable events. In most businesses, pricing your product is easy. How much does the product cost you to make (or acquire), what are your operating costs, and then how much of a profit margin do you want to make? The cost of most products is concrete and known. But in insurance, the product cost (i.e. the average amount you ultimate have to pay per policy sold) is an abstraction. There are timing issues, variability issues, and so on. So actuaries have to make estimates, usually by looking at data and extrapolating from past patterns. If your company wants to sell automobile insurance, you need to get valid data, the more recent the better, and figure out what the average cost of that body of data will ultimately be. Then you can divide by the number of cars in that data to get a per-car cost, make some timing adjustments for the period in which you want to offer coverage, and then you'll know how much you need to charge. The other big function actuaries provide is reserving, making sure that insurance companies keep enough money on their balance sheets to make good on all the claims they'll have to pay. And that also involves making estimates of the ultimate outcome of insurable events. The most unusual thing I've ever done is help a big plaintiffs law firm determine how to structure payments to their clients who had lived near a nuclear power plant and had been awarded a settlement for their increased risk of cancer. The reason it was unusual is that the plaintiffs were supposed to be given money if they developed virtually any kind of cancer ever. But approximately 40-50% of any group of people will develop some kind of cancer during their lives, and it was not at all clear that this group who lived near the power plant was suffering a higher incidence of cancer. The lawyers had badly underestimated the general incidence of cancer in a population and had no idea how to apportion the money to their clients. The exams. When I took them, there were ten. Now there are nine, but many of them have two and three parts. So they seem more like 12 or 15. The higher ones especially are really hard, with pass ratios around 35%. That means it's common to fail. I probably sat more than 20 times in order to pass the 10 I passed.