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December 12, 2016

On-Demand Insurance: Ultimately a Bust?

Summary:

Innovative entrepreneurs are bringing this exciting business model to insurance…and it’s a terrible idea. Insurance is unlike any other business.

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In the past several years, mobile technology has allowed economic transactions to get accomplished with little to no effort. Companies like Uber and Airbnb are leading the way, with business models that conveniently match supply and demand of livery and temporary housing in a way that has truly revolutionized how we go about our day-to-day lives. These new business models are often described as the on-demand economy, where customers: (1) obtain access to services, when they need it and (2) only pay per use.

Going Beyond Uber and Airbnb

On-demand solutions have spawned into new industries such as pet sitting, food and laundry delivery, event planning and, more recently, insurance. Innovative entrepreneurs are bringing this exciting business model to insurance…and I think it’s a terrible idea.

Insurance is unlike any other business. An Uber user gets a ride, an Airbnb user gets a place to stay. There’s an instant gratification that doesn’t exist in an insurance transaction, because, in insurance, the user gets a promise. A promise! That’s it. Basically, an insurance customer pays and then waits for the promise to materialize in the form of a paid claim. This lack of instant gratification makes extending on-demand, pay-per-use models into insurance untenable in the long run.

Here’s How

In an on-demand or pay-per-use business model, when do you think insurance buyers will most want to buy insurance? Logic says, just before they are likely to need it. Consider Trōv, “the world’s first on-demand insurance for your things. With Trōv, you can protect just the things you want, exactly when you want, entirely from your phone. You can also easily organize important information about the things you own and back it up to the cloud, so it’s accessible when needed.” Admittedly, the app is nifty. The look and feel is fantastic and will really appeal to the new generation of insurance shoppers who wish to do everything on their phones. I can take a picture of my laptop, swipe, and it’s insured. Very easy.

Perhaps a little bit too easy.

See also: On-Demand Insurance: What’s at Stake  

Flaw #1: Bad Economics

Put yourself in the shoes of a user and ask yourself, when will you most likely perform this transaction? Are you more likely to swipe-to-insure when the laptop is nicely tucked away in your bag, in your house, over a cozy, snowy weekend, when you are there to protect it…OR…are you more likely to insure it when you are traveling to a 2,000-person conference in New York City, staying in an Airbnb shared space? Odds are, in the on-demand insurance world, you will more likely buy coverage just before you’re likely to use it. Not to say that all insureds will do this, but rather that enough will, which will make the loss costs for the products insured higher than the same exposure in a traditional insurance product. And if loss costs are higher, so are the premiums.

In other words, in this pay-per-use insurance model, the cost per unit of exposure will be significantly higher than in the traditional insurance model. And this is without even accounting for fraud. Imagine being able to get a new laptop every two to three years by insuring your old one just before it is mysteriously stolen? The economics scream that this won’t work!

You can’t “on-demand” a promise. The promise itself is intangible, and users will only perceive value if they’ve actually used the product — in direct contrast to insurers’ objectives.

Flaw #2: Increased Interaction With an Insurance Company

Another flaw in this model is that it’s incumbent on the buyer to turn coverage on and off, essentially market timing the transaction. Consider Slice, which “provides coverage on-demand, and for only the periods of time you need it. The Slice policy will automatically begin and end in perfect sync time you’re operating as a business, whether it’s minutes, days or weeks. And, you only pay for the dates and times you have a policy.”

Let’s assume the role of the Slice insurance user: What if the user forgets to turn coverage on or off? While, in the case of Slice, users have to specify the off date, not all on-demand insurance players require this. Also, these new firms, which are focused on the customer experience, seem to ignore the fact that the last thing customers want is more interaction with insurance firms. As big of a fanatic about the industry as I am, I look forward to dealing with my insurance carrier as I much as I look forward to dealing with the IRS or with my dentist. We humans are notoriously bad at stock market timing. It’s pretty much common wisdom to avoid market timing and diversify your risk using low-cost indexing. In sum, the message of on-demand insurance? Time the risk.

Some on-demand solutions, such as the one by auto insurer Metromile, place a device inside your vehicle that removes the user from the need to turn insurance on or off. The device is always on, and Metromile will only bill you if you use the service (outside of a small base rate), solving the timing problem mentioned above. I’m a fan of any technology that minimizes my interaction with the insurer, so what’s not to love? If you are truly a low-mileage driver, then you are likely to benefit from this arrangement, but….in my many years of selling auto insurance, the one near-constant source of pride that most auto insurance buyers patted themselves on the back for was how few miles they drove. Yet, time after time, when it came to verify miles driven, most policyholders failed to squeeze under 10,000 to 12,000 miles per year. That also happens to be the the inflection point where Metromile policies begin to get more expensive than traditional policies. So for the fortunate few who truly are low-mileage drivers, pay-per-use car insurance is likely a good deal. For everyone else, it will either be an expensive proposition, or, perhaps worse, you will bend your style of life to fit within the affordable mileage thresholds.

Flaw #3: We Need More Coverage, More Often; Not Less

Finally, insurance is all about dealing with risk and uncertainty, and we humans are really, really bad at managing risk. Low-frequency, high-severity events are truly troubling for our minds to handle. Our species has made remarkable advancements over tens of thousands of years, and yet even the brightest of us fall prey to risk and uncertainty. Whether it’s speculative risks or insurable risks, we make the same mistakes over and over again. On-demand or pay-per-use insurance is another innovation that, I believe, while attractive to many, is not really the type of products that insurers should be offering.

You may be the most conscientious person, a true low-risk insurance buyer whom every carrier wants, and yet there are still a full range of factors that can and will cause you great losses, all of which are out of your control. No matter how risk-averse you are, things such as lightning, hail, hurricanes, tornadoes, earthquakes, floods, drunk drivers, slip and falls, falling cranes, power outages and other random events are going to strike, and you can’t always avoid them. For that reason, insurance policies are designed to offer a breadth of coverage. Yet it feels as if there’s a new wave of entrepreneurs entering the industry, looking to cash in on the insurance transaction by unbundling the coverage breadth and offering a stripped-down version of current coverage under the guise of “savings,” while leaving insureds more exposed.

See also: Insuring a ‘Slice’ of the On-Demand Economy  

I can see the attraction of pay-per-use. After all, why pay for all this extra insurance you don’t need? That being said, in the long run most customers will be turned off. The economics are not in place for the vast majority of insurance buyers. They don’t need less coverage, they need more! And they need it turned on – always!

Buyers of on-demand or pay-per-use insurance will either get caught with their pants down (“Oops, I forgot to turn the coverage on”) or get frustrated when they see that they have been paying 25-50% of the value of their property year over year (“Oops, I forgot to turn the coverage off”) or get super frustrated when the coverage limits their lifestyle (“Can i get a lift; my car insurance is really expensive when I drive”).

In other words, this new trend in insurance is penny-wise and pound-foolish. We certainly can do better.

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About the Author

Nick Lamparelli has been working in the insurance industry for nearly 20 years as an agent, broker and underwriter for firms including AIR Worldwide, Aon, Marsh and QBE. Simulation and modeling of natural catastrophes occupy most of his day-to-day thinking. Billions of dollars of properties exposed to catastrophe that were once uninsurable are now insured because of his novel approaches.

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