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FIN3040 - Risk and Insurance > Chapter 1 > Flashcards

Chapter 1 Flashcards

1
Q

Definition of Risk:

A

Uncertainty concerning the occurrence of a loss
— If the probability of an event occurring is either zero or one, there is no risk since there is no risk because there’s no uncertainty.

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2
Q

Definition of Loss Exposure:

A

Any situation or circumstance in which a loss is possible, regardless of whether a loss occurs.
— Ex: car, laptop

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3
Q

A Pure Risk Is…

A

one in which there are only
the possibilities of loss or no loss
—Example: premature depth

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4
Q

A Speculative Risk Is…

A

one in which both
profit or loss are possible
— Example: business ventures, investments

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5
Q

Static Risk is….

A

From unchanging society
— Ex: Pure Static Risk- random event – lightning, wind-storm, death, flooding

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6
Q

Dynamic Risk is…

A

PRODUCED BY CHANGES IN SOCIETY
— Ex: increasingly complex technology, changes in legislation

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7
Q

Fundamental Risk is…

A

Affects the entire economy or large
number of persons or groups within the economy
— Ex.: Flooding in Fort Worth TX, Hurricane Katrina

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8
Q

Particular Risk is…

A

Risk that affects only the individual and not the entire community or country
— Ex.: Car Thefts, Bank Robberies, dwelling fires (affects only individuals)

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9
Q

Objective Risk is…

A

relative variation of actual loss from expected loss
— Measurable, statistical
— If a loss is certain to occur, objective risk is zero.

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10
Q

Subjective Risk is…

A

uncertainty based on a person’s mental condition or state of mind
— Two persons in the same situation may have different perceptions of risk
— Difficult to measure

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11
Q

Enterprise Risk is…

A

encompasses all major risks faced by a business firm, which include: pure risk, speculative risk, strategic risk, operational risk, and financial risk

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12
Q

Financial Risk is…

A

refers to the uncertainty of loss because of adverse changes in commodity prices, interest rates, foreign exchange rates, and the value of money.

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13
Q

Enterprise Risk Management…

A

combines into a single unified treatment program all major risks faced by the firm

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14
Q

Enterprise Risk Includes:

A
  • Pure risk
  • Financial risk
    — Speculative risk
    — Strategic risk
    — Operational risk
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15
Q

Property Risks Include:

A

— Business property
— Individually owned property
— Property owned by others

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16
Q

Liability Risks Include:

A
  • Business Liability Exposures (injury from a product)
    — Liability exposures experienced by individuals
    — Ex: Ford Supertruck Lawsuit
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17
Q

Personal Risks Include:

A

– Life, Health, & Loss of Income
- Premature death
- Poor Health
- Medical expenses
-Disability – loss of earned income & medical expenses
-Unemployment – depletion of financial assets

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18
Q

Personal Risk can be defined as:

A

The possibility of a loss or reduction in income, extra expenses or depletion of financial assets

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19
Q

How should workers save enough money for retirement to mitigate personal risks?

A

Save 15% of all pretax income.

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20
Q

Direct loss can be defined as:

A

A financial loss that results from the physical damage, destruction, or theft of the property, such as fire damage to a home

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21
Q

An indirect loss can be defined as:

A

An indirect loss results indirectly from the occurrence of a direct physical damage or theft loss, such as the additional living expenses after a fire to a home. These additional expenses would be a consequential loss.

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22
Q

Liability risk can be defined as:

A

The possibility of being held liable for bodily injury or property damage to someone else

23
Q

Where is the maximum upper limit with respect to the amount of loss that liability risk holds?

A

There is no maximum upper limit. A lien can be placed on your income and financial assets

24
Q

What commercial risks do businesses incurr?

A
  • Property
  • Liability risks
  • Loss of business income
  • Other risks, crime exposure, human resources exposure, foreign loss exposure, intangible property exposureses and government exposures.
25
Q

What is the chance of loss?

A

The probability that an event will occur

26
Q

How can objective probability be defined?

A
  • The long-run relative frequency of an event assuming an infinite number of observations and no change in the underlying conditions
    — Easily Quantifiable
27
Q

How can subjective risk be defined?

A
  • The individual’s personal
    estimate of the chance of loss
    — A person’s perception of the chance of loss may differ from the objective probability
28
Q

What is the definition of peril?

A

Specific contingency that may cause a loss

29
Q

What is the definition of hazard?

A

A condition that increases the chance of loss due to a peril

30
Q

Name examples of natural perils that are generally insurable:

A

— Wind-Storm
— Lightning
— Heart attack

31
Q

Name examples of natural perils that are generally difficult to insure:

A
  • Flood
    — Earthquake
    — Epidemic
    — Volcanic eruption
    — Mold
32
Q

Name examples of human perils that are generally insurable:

A

-Theft
-E-commerce
- Vandalism
- Negligence
- Fire and smoke

33
Q

Name examples of human perils that are generally difficult to insure:

A
  • War
    — Radioactive Contamination
    — Civil unrest
34
Q

Define physical hazards:

A

Physical conditions that increase the chance of loss

35
Q

Give examples of physical hazards:

A
  • Icy Roads
    -Defective wiring
36
Q

Define Moral Hazard:

A

Dishonesty or character defects in an individual, that increase the chance of loss

37
Q

Name examples of moral hazards:

A
  • Faking accidents,
  • Inflating claim amounts
38
Q

Define Morale Hazard:

A

Carelessness or indifference to a loss, which increases the frequency or severity of a loss

39
Q

Give an example of morale hazard:

A

Leaving keys in an unlocked car(Peril is theft)

40
Q

What 3 major burdens do risk pose on society?

A
  1. In the absence of insurance, individuals would have to maintain large emergency funds
  2. The risk of a liability lawsuit may discourage innovation, depriving society of certain goods and services
  3. Risk causes worry and fear
41
Q

What are the 5 major methods for managing risk?

A
  1. Avoidance
  2. Loss control
  3. Retention
  4. Noninsurance transfers
  5. Insurance
42
Q

What is the avoidance method of managing risk?

A

Steering clear of engaging in risk taking activities or bringing potentially dangerous products to market.

43
Q

What is the loss control method of managing risk?

A

Certain activities are undertaken to reduce both the frequency & severity of losses.

44
Q

What are the two loss control methods?

A
  1. Loss prevention refers to activities to reduce the frequency of losses
  2. Loss reduction refers to activities to reduce the severity of losses
    — Retrofit buildings that would prevent earthquakes and your company get a discount on insurance
45
Q

What is the retention method of managing risk?

A

An individual or firm retains all or part of a given risk.

46
Q

What is the active retention method of retention?

A
  • Active retention means that an individual is consciously aware of the risk and deliberately plans to retain all or part of it.
    — Ex. An individual may retain the first $500 of physical damage to his auto by purchasing an automobile collision policy with a $500 deductible.
47
Q

What is the passive retention method of retention?

A

Passive Retention means risks may be unknowingly retained because of ignorance, indifference, or laziness.

48
Q

What is the self insurance method of retention?

A

Self Insurance is a special form of planned retention by which part or all of a given loss exposure is retained by the firm.

49
Q

What is the non insurance method of managing risk?

A
  • A risk may be transferred to another party by several methods:
    — A transfer of risk by contract, such as through a service contract or a hold harmless agreement in a contract.
    — The risk of a defective flat screen tv can be shifted to the retailer by the purchase of a service contract by which the retailer is responsible for all repairs after the warranty expires.
50
Q

What is hedging, a noninsurance transfer of risk?

A

A technique for transferring the risk of unfavorable price fluctuations to a speculator by purchasing and selling futures contracts on an organized exchange
— This is speculative risk

51
Q

What is incorporation, a noninsurance transfer of risk?

A

A business firm transfers to the creditors the risk of
having insufficient assets to pay business debts

52
Q

What is the insurance method of risk management?

A
  • For most people, insurance is the most practical method
    for handling a major risk
    — Risk transfer is used because a pure risk(loss or no loss) is transferred to the insurer.
    — Ex: An automobile insurance policy can be purchased covering the negligent operation of an automobile.
53
Q

What is the pooling technique?

A

The pooling technique is used to spread the losses of the few over the entire group.

54
Q

What law applying to pooling helps to reduce risk?

A

The law of large numbers.

FIN3040 - Risk and Insurance (12 decks)

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