Risk Management Flashcards
Risk Management
The determination of what types of protection are required to meet an insured’s needs. Risk may be manageable, but it cannot be eliminated
Speculative Risk
– Situations where there is a chance for loss, gain, or neither loss or gain to occur. Examples of speculative risk include gambling, investing, or starting a new business. Speculative risk cannot be insured.
Pure Risk
Situations where there is no chance for gain; the only outcome is for nothing to occur or for a loss to occur. Pure risk is the only risk that can be insured. Examples include the possibility of:
Damage to property caused by a fire or other natural disaster
Financial loss as a result of injury, illness, or death
Peril
The cause or source of a loss, such as fire, windstorm, embezzlement, disease, death.
Loss
Reduction, decrease, or disappearance of value. A loss is the basis of a claim under the terms of an insurance policy.
Hazard
A specific condition that increases the probability, likelihood, or severity of a loss from a peril.
Physical Hazard
A physical condition that increases the likelihood or probability of loss; may include the use, condition, or occupancy of property. Physical hazards may be seen, heard, felt, tasted, or smelled.
Example: Flammable material stored near a furnace.
Moral Hazard
Dishonest tendencies that increase the probability of a loss; may include certain characteristics and behaviors of people. Moral hazards are most closely related to some form of lying, cheating, or stealing.
Example: An insured burns down their own house to collect the insurance payout.
Morale Hazard
An attitude of indifference toward the risk of loss that increases the probability of a loss occurring.
Example: Driving too fast for conditions, not wearing a seat belt, and ignoring stop signs at familiar intersections, smoking, failure to take medications that could control a medical condition are all morale hazards.
Loss Exposure
To an insurance company, each insured person or their covered property represents the risk of loss and the value of each potential claim is a known loss exposure.
Adverse Selection
An imbalance created when risks that are hard to insure (more prone to losses than the average (standard) risk) are the only risks seeking insurance within a specific marketplace.
For example, only those living in earthquake-prone areas seek to buy earthquake insurance or those in the poorest of health seeking to acquire life or health insurance.
High risks exposures tend to seek or continue insurance at a higher participation rate than the average risk exposures do.
Methods of handling risk STARR
Sharing - sharing the risk with other persons or entities
Transfer- Transferring the risk from one party to another
Avoidance- Avoid the activity that gives rise to the chance of loss
Reduction- Minimizing the chance of loss, but not preventing the risk.
For example, sprinkler systems, burglar alarms, pollution controls and safety guards on machinery, or taking medications and having preventive medical care
Retention-
Assume the responsibility for loss
Self-insure the entire loss or a portion of the loss. Choosing deductibles is a method of risk retention.
It may be economically practical for an insured to not insure each exposure to loss and, instead insure only those risks that threaten financial stability or security
Elements of an insurable risk
Large # of Homogeneous units
Loss must be definite
Loss must be accidental and unexpected
Loss must cause financial hardship
Loss must be calculable and premiums affordable
Loss must not include catastrophic perils
The law of large numbers
The larger the # of exposures the closer the losses will be equal the underlying probability of loss
