The Value at Risk Analysis using Heavy-Tailed Distribution on the Insurance Claims Data

The insurance has often been involved to minimize financial losses. As the product providers, the insurance companies must effectively manage risks to prevent errors in risk measurement. The amount of risk or loss experienced by the policyholder refers to the claim amount. The Value at Risk (VaR) is commonly used to measure risk. The VaR is calculated from the probability function, which can be obtained by evaluating the distribution of claims data. Most claim frequencies are small, but occasionally, huge claims appear. Therefore, the appropriate distribution would be characterized by a heavy-tailed. Thus, this research aims to model and evaluate insurance claims data using exponential, Weibull, Pareto, and lognormal distributions to assess financial risk through VaR. The insurance claims data were collected from a single insurance company and include 1,326 claims. This research specifically examines variables such as gender, diabetic status, smoking status, the number of claims, and the level of confidence. The data were analysed using descriptive statistics, Maximum Likelihood Estimation for parameter estimation, and Goodness of Fit tests to determine the best-fitting distribution, along with VaR calculations based on the results. The suitability of the distribution model is assessed through the VaR and is analysed based on the appropriate distribution of insurance claims data. It is obtained that the Weibull and lognormal distributions appropriately model insurance claims data. The highest VaR is observed in the claim data for female non-diabetic smokers, with a level of confidence of 99.5%. The lowest VaR is obtained from the claim data for male diabetic non-smokers, with a level of confidence of 90%. This approach enhances the prediction of large potential losses for specific demographic groups, aiding more informed decision-making in premium pricing and risk management. The integration of heavy-tailed distributions in risk assessment, with a particular focus on demographic specificity, constitutes a substantial and novel contribution to this research.