Quiz 1 Chapter 1&2&3 Flashcards
(93 cards)
1
Q
Risk
A
Risk is uncertainty concerning the occurrence of a loss.
2
Q
loss exposure
A
any situation or circumstance in which a loss is possible, regardless of whether a loss occurs.
3
Q
Objective risk
A
the relative variation of actual loss from expected loss. As the number of exposure units under observation increases, objective risk declines.
4
Q
Subjective risk
A
uncertainty based on one’s mental condition or state of mind. Accordingly, objective risk is measurable and statistical; subjective risk is personal and not easily measured.
5
Q
Chance of loss
A
the probability that an event will occur.
6
Q
Objective probability
A
to the long-run relative frequency of an event based on the assumption of an infinite number of observations and no change in the underlying conditions
7
Q
Subjective probability
A
is the individual’s personal estimate of the chance of loss.
8
Q
peril
A
cause of loss
9
Q
Hazard
A
a condition that creates or increases the chance of loss.
10
Q
Physical hazard
A
physical condition that increases the chance of loss
11
Q
Moral hazard
A
dishonesty or character defects in an individual that increase the chance of loss.
12
Q
Attitudinal hazard (morale hazard)
A
is carelessness or indifference to a loss.
13
Q
Legal hazard
A
refers to characteristics of the legal system or regulatory environment that increase the frequency or severity of losses.
14
Q
Pure risk
A
is defined as a situation in which there are only the possibilities of loss or no loss.
15
Q
Speculative risk
A
is defined as a situation where either profit or loss is possible.
16
Q
Diversifiable risk
A
is a risk that affects only individuals or small groups and not the entire economy. It is a risk that can be reduced or eliminated by diversification.
17
Q
nondiversifiable risk
A
a risk that affects the entire economy or large numbers of persons or groups within the economy. It is a risk that cannot be reduced or eliminated by diversification.
18
Q
Enterprise risk
A
encompasses all major risks faced by a business firm, which include pure risk, speculative risk, strategic risk, operational risk, and financial risk.
19
Q
Financial risk
A
the uncertainty of loss because of adverse changes in commodity prices, interest rates, foreign exchange rates, and the value of money.
20
Q
Enterprise risk management
A
combines into a single unified treatment program all major risks faced by the firm. These risks include pure risk, speculative risk, strategic risk, operational risk, and financial risk.
21
Q
traditional risk management
A
considered only major and minor pure risks faced by a corporation. These risks were limited to property, liability, and personnel-related loss exposures
22
Q
Risk is a burden to society in at least three ways:
A
(a) The size of an emergency fund must be increased.
(b) Society may be deprived of needed goods and services.
(c) Worry and fear are present.
23
Q
direct loss
A
is a financial loss that results from the physical damage, destruction, or theft of property.
24
Q
Indirect loss
A
results from or is the consequence of a direct loss.
25
Major risks faced by business firms
include property risks, liability risks, loss of business income, cyber security and identity theft, crime exposures, human resources exposures, foreign loss exposures, intangible property exposures, and government exposures.
26
Avoidance.
This means a certain loss exposure is never acquired, or an existing loss exposure is abandoned.
27
Loss prevention.
Certain activities are undertaken that reduce the frequency of a particular loss.
28
This refers to measures that reduce the severity of a loss after it occurs.
Loss reduction.
29
Duplication.
This technique refers to have back-up or duplicate copies of important documents or property in the event a loss occurs.
30
Separation.
The assets exposed to loss are separated or divided to minimize the financial loss from a single event.
31
Diversification.
This technique reduces the chance of loss by spreading the loss exposure across different parties.
32
Risk financing
refers to techniques that provide for the payment of losses after they occur.
33
Retention
This means that an individual or business firm retains part or all of the losses that can result from a given loss exposure.
34
Noninsurance transfers.
This means that a risk is transferred to another party other than an insurance company.
35
Insurance
Insurance transfers risk to an insurer that pays if a loss occurs.
36
Insurance plans have four distinct characteristics:
Pooling
Fortuitous loss
risk transfer
indemnification
37
Pooling.
Losses incurred by the few are spread over the entire group so that in the process, average loss is substituted for actual loss.
38
Fortuitous loss.
Insurance plans provide for the payment of fortuitous losses. is unforeseen and unexpected, and occurs as a result of chance.
39
Risk transfer
. In private insurance, a pure risk is transferred from the insured to the insurer, which is typically in a better financial position to pay the loss than the insured.
40
Indemnification.
Compensation is given to the victim of a loss, in whole or in part, by payment, repair, or replacement.
41
law of large numbers
the greater the number of exposures, the more closely the actual results will approach the probable results expected from an infinite number of exposures. As the number of exposures increases, the relative variation of actual loss from expected loss will decline.
42
requirements of an ideally insurable risk
(a) There must be a large number of exposure units.
(b) The loss must be accidental and unintentional.
(c) The loss must be determinable and measurable.
(d) The loss should not be catastrophic.
(e) The chance of loss must be calculable.
(f) The premium must be economically feasible.
43
Insurers can deal with the problem of a catastrophe loss by
(1) reinsurance,
(2) avoiding the concentration of risk by dispersing coverage over a large geographical area, and
(3) use of certain financial instruments in the capital markets, such as catastrophe bonds.
44
Adverse selection
is the tendency for persons with a higher-than-average chance of loss to seek insurance at standard (average) rates, which, if not controlled by underwriting, results in higher-than-expected loss levels.
45
Adverse selection
can be controlled by careful underwriting, by charging higher premiums to substandard applicants for insurance, and by certain policy provisions.
46
major fields of private insurance
life insurance, health insurance, and property and liability insurance
47
Risk management is
defined as a systematic process for the identification and evaluation of pure loss exposures faced by an organization or individual and for the selection and administration of the most appropriate techniques for
treating such exposures
48
Preloss risk management objectives
include the goals of economy, reduction in anxiety, and meeting legal
obligations.
49
four steps in the risk management process
(1) identify major and minor loss exposures; (2) measure and
analyze the loss exposures in terms of loss frequency and loss severity; (3) select the appropriate technique or
combination of techniques for treating the loss exposures; and (4) implement and monitor the program.
50
Postloss objectives
include survival of the firm, continued operations, stability of earnings, continued
growth, and social responsibility
51
Risk control refers to
techniques that reduce the frequency and severity of accidental losses. Specific techniques
are avoidance, loss prevention, loss reduction, duplication, separation, and diversification
51
maximum possible loss
is the worst loss that could possibly happen to the firm during its lifetime.
52
Several sources of information can be used to identify potential losses
Risk analysis questionnaire and checklists
Physical inspection
Flow charts
Financial statements
Historical loss data
52
The
probable maximum loss
is the worst loss that is likely to happen.
53
Risk financing refers to
techniques that provide for the funding of losses after they occur. Specific risk financing
techniques include retention, noninsurance transfers, and insurance.
53
The
major advantage of avoidance
is that the chance of loss is zero if the loss exposure is never acquired.
53
Loss reduction
refers to measures that reduce the severity of a loss after it occurs.
54
Avoidance
means that a loss exposure is never acquired, or an existing loss exposure is abandoned
55
Loss prevention
refers to measures that reduce the frequency of a particular loss.
56
Captive insurers have several advantages
The parent firm may have difficulty in obtaining certain types of insurance from commercial insurers, so a
captive insurer can be formed to provide coverage.
Insurance costs may be lower because of lower operating expenses, avoidance of an agent’s
or broker’s commission, and retention of interest earned on invested premiums and reserves that commercial
insurers would otherwise receive.
A captive insurer provides easier access to a reinsurer.
A captive insurer can be a profit center if the captive insures the parent firm and other parties
as well.
56
captive insurer
is an insurer owned by a parent firm for the purpose of insuring the parent firm’s loss
exposures
57
Self-insurance is a
special form of planned retention by which part or all of a given loss exposure is retained by
the firm.
58
risk retention group
is a group captive that can write any type of liability coverage except employer liability,
workers compensation, and personal lines
58
Insurance has several advantages in a risk management program
The firm will be indemnified after a loss occurs.
Uncertainty is reduced, which permits the firm to lengthen its planning horizon.
Insurers can provide valuable risk management services, such as loss control, identification of loss exposures,
and claims adjusting.
Premiums are deductible for income tax purposes.
59
Insurance has several disadvantages in a risk management program:
The payment of premiums is a major cost.
Considerable time and effort must be spent in negotiating the insurance coverages.
The risk manager may have less incentive to follow a risk control program, because the insurer will pay the
claim if a loss occurs
60
Enterprise risk management
is a strategic business discipline that supports the achievement
of an organization’s business objectives by addressing the full spectrum of its risk and managing the
combined impact of these risks as an integrated risk portfolio.
61
Traditional risk management
programs are narrower, considering only the property, liability, and personnel-related loss exposures
of an organization. Traditional risk management treated the risks independent of other risks (in
“silos”) that the organization faced. Traditional risk management did not consider the inter-relation
between and among the risks, and did not prioritize the risks faced by an organization.
62
The ERM
process helps
to inform strategic decision making, unlike traditional risk management.
63
broad categories of risk considered in an ERM plan include
: hazard risk, financial risk,
operational risk, strategic risk, government/compliance risk, and other risks. The operational risks
include risks developing from people, processes, systems, and external events.
64
A risk register
is a matrix/chart that lists the risks the organization faces and provides pertinent
information about the risks.
65
Risk maps
are a graphical plotting of the wide array of risks the organization faces.
66
benefits of implementing an ERM program:
* There is increased awareness of the risks and improved treatment of the risks
* There is increased certainty of meeting strategic and operational goals
* There is assurance of compliance with regulatory and legal requirements
* There is greater accountability for the management of risks the organization faces
* There is greater efficiency in the management of risks and potential costs savings
* There is improved strategic decision making
* There is increased value of the organization
67
The underwriting cycle
refers to the tendency for commercial property and liability insurance
markets to fluctuate between periods of tight underwriting with high insurance premiums and
periods of loose underwriting with low insurance premiums
68
Securitization of risk
transfers insurable risk to the capital markets through the creation of a financial
instrument, such as a catastrophe bond
69
A traditional corporate bond
has specified periodic interest payments and the maturity paid when the
bond matures. With a catastrophe bond, some of the payments are contingent upon events that might
occur.
70
Loss forecasting
is necessary to enable the risk manager to make an informed decision about whether
to retain or transfer loss exposures.
71
Ratemaking
refers to the pricing of insurance and the
calculation of insurance premiums
72
actuary
Rates and premiums are determined by an actuary,
using the company’s past loss experience and
industry statistics
-determine the adequacy of loss
reserves, allocate expenses, and compile statistics for
company management and state regulatory officials.
73
Underwriting
refers to the process of selecting, classifying, and
pricing applicants for insurance
74
A statement of underwriting policy
establishes policies that
are consistent with the company’s objectives
75
field underwriting
The process of underwriting starts with the agent
76
Production
refers to the sales and marketing activities of
insurers
77
Major types of claims adjustors include
-An insurance agent
-A staff claims representative
-An independent adjustor
-A public adjustor
78
Reinsurance
an arrangement by which the primary
insurer that initially writes the insurance transfers to
another insurer part or all of the potential losses
associated with such insurance
79
Facultative reinsurance
an optional, case-by-case
method that is used when the ceding company
receives an application for insurance that exceeds its
retention limit
▪ Often used when the primary insurer has an
application for a large amount of insurance
80
Treaty reinsurance
means the primary insurer has
agreed to cede insurance to the reinsurer, and the
reinsurer has agreed to accept the business
▪ All business that falls within the scope of the
agreement is automatically reinsured according to
the terms of the treaty
80
Pro rata method
, the ceding company and
reinsurer agree to share losses and premiums based
on some proportion
81
Excess method
, the reinsurer pays only
when covered losses exceed a certain level
82
quota-share treaty
, the ceding insurer and the
reinsurer agree to share premiums and losses based on
some proportion
82
surplus-share treaty,
the reinsurer agrees to
accept insurance in excess of the ceding insurer’s
retention limit, up to some maximum amount
83
excess-of-loss treaty
is designed for protection
against a catastrophic loss
– A treaty can be written to cover a single exposure, a
single occurrence, or excess losses
84
reinsurance pool
is an organization of insurers that
underwrites insurance on a joint basis
85
