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📊 '''Severity (insurance)''' measures the average cost per [[Definition:Insurance claim | claim]] or per [[Definition:Loss | loss]] event, distinguishing it from [[Definition:Frequency (insurance) | frequency]], which counts how often losses occur. Together, frequency and severity form the foundational building blocks of [[Definition:Actuarial science | actuarial analysis]] and [[Definition:Loss modeling | loss modeling]] across virtually every [[Definition:Line of business | line of business]] in the insurance industry. A [[Definition:Property insurance | property]] portfolio and a [[Definition:Liability insurance | liability]] portfolio might generate identical total losses in a given year, but the underlying dynamics can differ dramatically — one driven by many small claims (high frequency, low severity) and the other by a handful of outsized settlements (low frequency, high severity).

⚙️ Actuaries analyze severity by fitting statistical distributions — such as lognormal, Pareto, or gamma distributions — to historical [[Definition:Claims data | claims data]], adjusting for [[Definition:Inflation | claims inflation]], changes in [[Definition:Policy limit | policy limits]], and shifts in the underlying [[Definition:Exposure | exposure]] base. In [[Definition:Long-tail insurance | long-tail]] lines like [[Definition:Workers' compensation insurance | workers' compensation]] or [[Definition:Medical malpractice insurance | medical malpractice]], severity trends can be especially volatile because claims take years to develop fully, and ultimate costs are sensitive to judicial outcomes, medical cost escalation, and legislative reform. [[Definition:Reinsurance | Reinsurance]] structures are often designed explicitly around severity: [[Definition:Excess of loss reinsurance | excess of loss]] treaties attach above a specified per-claim or per-event threshold, transferring the high-severity tail to the reinsurer, while the [[Definition:Cedent | cedent]] retains the more predictable, lower-severity portion of the loss distribution.

💡 Tracking severity trends gives [[Definition:Underwriter | underwriters]] and [[Definition:Portfolio manager | portfolio managers]] early warning signals that would be invisible in aggregate loss figures alone. A rising average claim cost in [[Definition:Commercial auto insurance | commercial auto]] or [[Definition:Directors and officers insurance (D&O) | D&O]] liability, for example, may indicate emerging litigation trends, [[Definition:Social inflation | social inflation]], or shifts in [[Definition:Claims management | claims settlement]] practices — all of which demand pricing and reserving responses. Regulatory frameworks globally, from the [[Definition:National Association of Insurance Commissioners (NAIC) | NAIC's]] risk-based capital requirements to [[Definition:Solvency II | Solvency II's]] standard formula, embed severity assumptions into their capital calculations, making accurate severity estimation not just an actuarial exercise but a matter of regulatory compliance and financial solvency.

'''Related concepts:'''
{{Div col|colwidth=20em}}
* [[Definition:Frequency (insurance)]]
* [[Definition:Loss ratio (L/R)]]
* [[Definition:Excess of loss reinsurance]]
* [[Definition:Actuarial science]]
* [[Definition:Social inflation]]
* [[Definition:Claims triangle]]
{{Div col end}}

Definition:Severity (insurance) - Revision history

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