Insurance Ch. 1

What are the costs of pure risks

1. Actual losses that occur 2. Worry and fear about possible losses 3. Less-than-optimal use of resources 4. Costs of managing the risks

What are the 5 classifications of risks?

1. Financial vs. Non-financial risks 2. Particular vs. Fundamental Risks 3. Static vs. Dynamic Risks 4. Pure vs. Speculative Risks 5. Insurable vs. Uninsurable Risks

What are the three types of Pure Risks?

1. Personal Risks 2. Property Risks 3. Liability Risks

Insurer's Premium

An amount to be paid for an insurance policy

Personal Risks (Pure Risks)

Concerned with death, injury illness, old age, and unemployment

Insurable vs. Uninsurable Risks

Insurable Risk = usually financial, particular, static and pure risks that meets five requirements [MUST be from Insurance from Privately owned insurance companies] 1. The amount of the loss must be important 2. The loss must be of an accidental nature 3. Future losses must be calculable 4. The loss must be definite 5. The loss cannot be excessively catastrophic

Particular vs. Fundamental Risks

Particular Risk = loss possibilities that affect only individuals or small groups of individuals at the same time, rather than a large segment of society. DEALT by individuals or insurance programs] Fundamental Risks = loss possibilities that affect large segments of a society at the same time. DEALT by society as a whole through government action]

What are the three types of hazards?

Physical hazards Moral hazards Attitudinal hazards

Pure vs. Speculative Risks

Pure Risk = either loss or no loss (Do not mix both profits and losses = Prospect of loss only is the cause of concern (Can be INSURED because its predictable) Speculative Risk = loss, no loss/no gain, or gain NOT insurable because not predictable

Static vs. Dynamic Risks

Static Risk = NOT involved changes in society or the economy (risks = death or fire damage to a client's home). TEND to be predictable and therefore treatable by insurance Dynamic Risk = involved in changes in society or in the economy. Including change in consumer tastes, preference in technology. TEND or be unpredictable and can potentially be untreatable

What methods do we use to measure risk?

The Deductive or the Inductive Method

Gambling

a speculative risk by betting on an uncertain outcome (people need to have a loss equal to the cost of insurance) Insurance does not create risk; it transfers and reduces a risk that already exists

Hazard

act or condition that increases the likelihood of the occurrence of a loss and/or increase the severity of a loss if a peril does occur

Perils

cause of loss: unemployment

Risk-tolerance Level

measures each person's reaction to risk (attached to or averse to the possibility of loss) - differs between person to person, situation to situation and risk to risk - important for a financial planner to understand a client's risk tolerance

Physical Hazard

physical condition relating to location, structure, occupancy, exposure

Property Risks (Pure Risks)

Destruction or loss of Property - may contain direct and indirect losses

Moral Hazard

Dishonest tendency likely to increase loss frequency and/or severity (Subprime Mortgage Crisis)

Financial vs. Non-financial risks

Financial risk = Loss of money (lost earnings or expensive medical bill) = More likely Non-financial Risk = Non-monetary losses (Compensation is provided by insurers if there is evidence of a policy owner's negligence)

Liability Risk (Pure Risks)

Individuals may become legally liable for injury to another person or damage to another party's property - also known as THIRT-PARTY Risk [injured person will be paid for injuries for which an insured is legally liable - can be financial or physical risk