RMI Exam 1

trucking firm has the following probability distribution for severity due to trucking accidents. Which answer belowbest defines the maximum possible loss? Dollar Loss per Accident Probability of Dollar Loss 1,000 0.50 3,000 0.30 5,000 0.15 10,000 0.05

$10,000

How is a histogram created?

By dividing a set of data into bins and counting the number of data points in each bin

Why might full insurance not remove the cost of residual uncertainty?

Full insurance may not always make payment for claims.

Assume the insurance market has hardened. Which of the following is now true of the insurance market relative towhen you last made your decision?

Insurers are very picky, prices are higher

Past data on losses is ________ useful for Dynamic Risks vs. Static risk.

Less.

A hospital is known for its specialization in complex surgeries and treatments. Patients travel from all across thecountry to receive care there. It has been observed that since the implementation of a new billing system, there's been anincrease in the coding of procedures to higher-paying codes than what was actually performed. This is an example of what?Emma is a former professional athlete who knows her risk of injury is higher than the average person. She chooses the mostgenerous insurance offered by her employer. This is an example of what?

Moral hazard; Adverse selection

Risk aversion arises in most utility functions because people

None of the above

-Person A faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $4. -Person B faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $4. -Person C faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $8.27. Suppose that Person B also purchases insurance for an actuarially fair premium and joins Person A in the insurer'srisk pool. Note that the risk pool now contains Person A and Person B only. Which of the following statements is TRUE aboutthis arrangement?

The amount of risk faced by the insurer is about 0.7.

Which of the following is TRUE for risk-neutral people / firms?

-Their cost of worry is zero -Their cost of credit does fluctuate with their risk

What is the primary goal of a public company?

Maximize shareholder wealth

Which of the following is TRUE for risk-neutral people / firms?

None of the above

The more that an individual tolerates risk:

The lower will be their worry value. The lower will be their PMAX

Which type of risk changes over time and is affected by external factors like techonology or laws?

Dynamic risk

What is the most important step in the risk management process?

ID of the loss exposure

A retail chain store experiences a significant burglary at one of its prime locations, losing $1.5 million in goods. Thecompany invests $2 million in advanced security systems, which it funds out of existing accounts. The company had purchasedan insurance policy with an annual premium of $300,000 that paid out $1 million. What is the cost of risk control (if any)?

The $2 million in security systems.

A retail chain store experiences a significant burglary at one of its prime locations, losing $1.5 million in goods. The company invests $2 million in advanced security systems, which it funds out of existing accounts. The company had purchasedan insurance policy with an annual premium of $300,000 that paid out $1 million. What is the cost of risk financing (if any)?

The $300,000 in insurance premiums.

Image a food processing company, "DelightBites," located in a coastalarea. The company has been operational for a decade and is known for its high-quality organic snacks. One summer, due to unusuallyhigh termpreatures and dry conditions, a wildfire started in the nearby forest and rapidly spread towards the industrial area whereDelightBites is located. Despite efforts to contain the fire, it reached the premises, causing significant damage to the warehouse and disrupting operations. What is the peril (if any) here?

Wildfire

Certain insurance regulations do not permit insurance companies to underwrite the members of their risk pool. Thelaw mandates that they must charge the same premium price to the various members of the pool. What is the likely effectof this type of regulation on the insurance market?

-Insurance is less expensive because the risk pools are larger. -Over time, insurance has become more expensive because low risks drop out of the risk pool

Anna considers buying a warranty for her new laptop, which costs $500. The warranty price is $200 for 3 years ofcoverage. Reflecting on the insurance market dynamics discussed, which of the following are true?

-Opting out of the warranty purchase could be seen as rational behavior given the relatively low cost of potential loss(laptop repair or replacement). -Purchasing the warranty might lead to moral hazard, with Anna possibly taking fewer precautions to protect her laptop. -This scenario could contribute to a market breakdown if the only consumers who purchase warranties are ones with high risk. -The high warranty price relative to the laptop's cost illustrates a scenario where the risk is small and administrativecosts are high

Risk Manager decides to begin a fire safety program that instructs staff to identify and reduce hazards thatcould cause a fire or make a fire worse. With respect to the loss in question, this decision would decrease which of the following?

-Severity -Frequency -Expected loss

A new auto insurance company offers policies that use telematics devices to track driving behavior, including speed, braking habits, and time of day when driving. Customers with safer driving habits are offered lower premiums. Considering the implications of this approach, which of the following statements are correct?

-This insurance model can mitigate adverse selection by aligning premiums more closely with individual risk levels. -The reliance on telematics data may inadvertently discriminate against drivers who live in areas where safe driving is more challenging, such as urban centers with dense traffic. -Drivers who improve their habits over time might benefit from reduced premiums, incentivizing safer driving behavior.

[1m - 21 ] An insurance company offers comprehensive home insurance that covers theft, fire, and flood. The probabilities offiling a claim for theft, fire, and flood in a year are 1%, 0.5%, and 0.1%, respectively. If the occurances are independent, whatis the probability that a homeowner will file a claim for both theft and flood in the same year?

0.001%

[1m - 19 ] Assume there's a 5% chance that a policyholder will file a claim within a year. If an insurance company has 10policyholders, what is the probability that at least 1 policyholders will file a claim? (round to nearest .00s)

0.4

Consider a weighted coin flip with probability of heads being p = 0.8 and probability of tails being q = 0.2. If it is heads, you win $10, if it tails you win nothing. What is the coefficient of variation for this probability distribution? Pick the closest answer.

0.5

[1m - 20 ] An insurance company covers homes against natural disasters. The annual probabilities that a claim is made forflood, earthquake, and hurricane damage are 0.2%, 0.1%, and 0.5%, respectively. Assuming each type of claims are mutually exclusive of the others, what is the probability that a policyholder will make a claim for either flood or earthquake damage in a year?

0.7%

How is the dollar value on the cost of residual uncertainty calculated?

By assessing the total amount that the individuals or firms are willing to pay for insurance coverage that exceeds theexpected loss, known as the risk premium

How does experience rating address the problem of moral hazard?

By encouraging policyholders to be more careful to avoid claims

How did Chinese merchants spread their risks in ancient times?

By swapping goods between ships

After getting car insurance with a very low deductible, Emma begins driving more carelessly. She has not had anaccident yet. What is the best option for the insurer to handle this scenario?

Cost sharing

An insurance company, fearing the financial impact of a catastrophic event, decides to purchase reinsurance. This strategy is primarily used to:

Distribute the risks of large, rare losses across multiple insurers, reducing the potential financial impact on any single company

An investor buys both a stock and a put option for the same stock to minimize potential losses. This strategy is called:

Hedging

The use of pooling in insurance functions best when the loss exposures being pooled are:

Independent

John, a frequent smoker, purchases a comprehensive insurance plan. Shortly after acquiring the plan, he files severalclaims related to respiratory issues. What is the best option for the insurer to address this issue in this scenario?

Individual Underwriting

Consider the concept of moral hazard. Which of the following statements are an example of moral hazard in healthinsurance?

Individuals with health insurance engage in careless behavior causing them to get sick. Individuals file false claims and commit insurance fraud with health insurance. Individuals with health insurance use more health care goods and services than those without health insurance.

A restaurant location near a river experiences frequent flooding, leading to repeated property damage and business interruptions as the restaurant cannot be used. Identify the type/s of hazard/s in this scenario.

Location Hazard

-Person A faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $4. -Person B faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $4. -Person C faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $8.27. Suppose that Person C also purchases insurance and joins Person A in the insurer's risk pool. Note that the risk poolnow contains Person A and Person C only. The insurer charges both person A and person C a premium of $3. Which ofthe following statements is FALSE?

Person C is charged his/her actuarially fair premium.

Why is moral hazard in lending bad?

It creates a disincentive for borrowers to repay loans. It results in higher costs for borrowers. It increases the likelihood of risky behavior.

Which of the following correctly explains an adverse selection death spiral in insurance markets?

It occurs when more high-risk individuals purchase insurance, leading to increased premiums, which then encouragesonly the healthiest to keep their policies

A hiker is trekking through a remote mountain range. The trail is steep and rocky, and the hiker is carrying a heavybackpack. As he navigates a particularly treacherous section of the trail, the straps on his backpack suddenly break, causinghim to lose his balance and fall. The hiker tumbles down the mountain, suffering multiple injuries. The multiple injuries are the:

Loss

Suppose you are comparing the degree of risk for the two firms, Cameron Inc. and Meghan Enterprises. From theirrespective loss frequency distributions, we have the following information concerning "inventory shrinkage" per month. For CAMERON INC. the mean is equal to 5 and the variance is equal to 9. For MEGHAN ENTERPRISES the mean is equal to 10 and the variance is equal to 16.Which company faces LESS RISK and why?

Meghan Enterprises because their coefficient of variation is lower than Cameron.

You are up all night studying in the for your first FIN 3400 exam from Dr. E. You have heard that the class isvery difficult, but you are determined to rise to the challenge. At some point in the evening, you take a study break to go toStarbucks and you simply forget to take your brand new iPhone 7 with you because you are tired and stressed out a bit. Youknow you have insurance that will cover the loss if it is stolen, so you wait until after your Starbucks trip to go back andcheck for it. This behavior is an example of which of the following?

Moral Hazard

Moral hazard and adverse selection are different because?

Moral Hazard is caused by the insurance contract; adverse selection causes the insurance contract choice.

Tom is a business owner and he has a number of employees. He decides to purchase a group health insurance policy forhis employees, which will help attract and retain talent. However, he doesn't communicate the cost sharing with his employeesand they become less motivated to stay healthy or shop around for the best medical care, because they feel like the companywill cover most of the costs. This is an example of what? Sophie is a renter and she has just moved into a new apartment. She decides not to purchase renter's insurance because shebelieves that her landlord's insurance will cover any losses in case of fire, theft or natural disaster. This is an example of what?

Moral hazard; Moral hazard

retail chain store experiences a significant burglary at one of its prime locations, losing $1.5 million in goods. Thecompany invests $2 million in advanced security systems, which it funds out of existing accounts. The company had purchased an insurance policy with an annual premium of $300,000 that paid out $1 million. What is the indirect loss (if any)?

None of the above

Consider a weighted coin flip with probability of heads being p = 0.8 and probability of tails being q = 0.2. If it isheads, you win $10, if it tails you win nothing. What is the coefficient of variation for this probability distribution?

None of these

A hiker is trekking through a remote mountain range. The trail is steep and rocky, and the hiker is carrying a heavybackpack. As he navigates a particularly treacherous section of the trail, the straps on his backpack suddenly break, causing himto lose his balance and fall. The hiker tumbles down the mountain, suffering multiple injuries. The fall was the:

Peril

Image a food processing company, "DelightBites," located in a coastalarea. The company has been operational for a decade and is known for its high-quality organic snacks. One summer, due to unusuallyhigh termpreatures and dry conditions, a wildfire started in the nearby forest and rapidly spread towards the industrial area whereDelightBites is located. Despite efforts to contain the fire, it reached the premises, causing significant damage to the warehouse and disrupting operations. What is the hazard (if any) here?

Temperature and dry conditions

Assuming the market can be profitable. What will insurance premiums be determined by if the insurer has monopolypower and can perfectly price discriminate?

The consumer's PMAX.

Andrew Garfield enters a building that has had it's floor removed but didn't have up any warning signs. He falls severalstories and injures himself. In addition to medical costs, this prevents him from playing the role of Secretariat in a movie. Whichof the following is the peril?

The fall.

Andrew Garfield enters a building that has had it's floor removed but didn't have up any warning signs. He falls severalstories and injures himself. In addition to medical costs, this prevents him from playing the role of Secretariat in a movie. Whichof the following is the hazard?

The lack of warning signs

Residents in certain high-risk coastal areas find it increasingly difficult to obtain flood insurance due to the risingnumber of climate-related flooding events. Why might an insurance market not exist for flood insurance in these high riskareas?

The risk is too large for the insurer

What is an actuarially fair value in the context of insurance?

The value of an insurance policy that is equal to the expected value of its claims

Which of the following would cause a decrease in worry value for a company owner?

The value of the company increases (holding potential loss constant

Which job involves determining the appropriate risk charge for an insurance policy?

Underwriter

You leave your bike unlocked outside a cafe in a safe part of town. While you're inside, a thief spots the bike and stealsit. Watching from the window, you exclaim, "Oh No!! The was the hazard and the was the peril!"

Unlocked bike, theft.

Image a food processing company, "DelightBites," located in a coastalarea. The company has been operational for a decade and is known for its high-quality organic snacks. One summer, due to unusuallyhigh termpreatures and dry conditions, a wildfire started in the nearby forest and rapidly spread towards the industrial area whereDelightBites is located. Despite efforts to contain the fire, it reached the premises, causing significant damage to the warehouse and disrupting operations. What is the loss (if any) here?

Warehouse damage

How is an actuarially fair value determined for an insurance policy?

-By calculating the expected value of its claims -By calculating the frequency and severity of claims

What is the shape of a normal distribution?

-Bell-shaped -Symmetrical

A risk-averse person has what shaped utility function?

Concave

Which of the following is a pure risk?

Theft

How did ancient law codes like the Code of Hammurabi handle the concept of maritime insurance?

They included clauses devoted to it

How can moral hazard be addressed?

-Including cost-sharing in insurance contracts. -By increasing regulation and oversight of financial institutions.

Which of the following characteristics of an exposure are associated with a higher risk charge?

-High maximum possible loss. -Limited ability to pool risks.

What is a histogram mainly used to represent in statistics?

The distribution of a set of data

Which of the following is NOT considered to be an example of moral hazard in insurance?

-A policyholder failing to disclose relevant information to the insurer -An insurer charging different premiums based on the level of risk -An insurer denying a claim due to a policyholder's actions that contributed to the loss

Which of the following is an example of moral hazard?

-A worker that takes fewer safety precautions because they are wearing personal protective equipment. -A consumer that buys a more expensive car because they expect the price of gas to remain low.

A company introduces a health insurance plan that offers lower premiums to employees who participate in a wellness program, which includes regular health screenings and fitness activities. Considering the concepts of moral hazard and adverse selection, which of the following outcomes are likely?

-Adverse selection may be reduced as healthier employees opt into the program, aligning premiums more closely with individual health risks. -The plan could inadvertently lead to privacy concerns among employees not comfortable with sharing their health data. -The wellness program could mitigate moral hazard by encouraging healthier behavior among participants.

Which of the following scenarios illustrate factors that can lead to a breakdown in insurance markets?

-Government regulations require all individuals to be charged the same premium, regardless of their risk level, leading to adverse selection. -A significant number of low-risk individuals choose not to purchase insurance due to high premiums, leaving primarily high-risk individuals insured. -Insurers are unable to accurately determine the risk profile of potential policyholders due to lack of information,leading to a mispricing of risk

In what ways can government intervention address failures in insurance markets?

-Mandating that all citizens purchase insurance to prevent adverse selection and ensure risk pooling. -Providing subsidies to low-income individuals to increase their ability to purchase insurance. -Establishing public insurance programs for risks that are difficult or unprofitable for private insurers to cover, suchas flood insurance

A homeowner fails to install smoke detectors in a house even though the house is built with highly combustible materialsbecause the homeowner has an insurance policy. Identify the type/s of hazard/s in this scenario.

-Moral Hazard. -Construction hazard

Which of the following is an issue that insurance companies face when the risk is not definite?

-Moral hazard -Conducting fraud investigations

An electronics manufacturer, after a series of accidents leading to employee injuries and production halts, decided tooverhaul its safety measures. This decision came in the wake of a lawsuit where a former employee was awarded $2 million bya judge for injuries sustained due to inadequate safety measures. To mitigate future risks, the company invested $5 million innew updated equipment, comprehensive safety protocols, and regular safety drills. Additionally, the company had purchasedcomprehensive insurance for $500,000 a year to cover potential employee injuries, damages to property, and lawsuits resultingfrom accidents. The company took out a loan for $1 million at a 5% interest rate. In the scenario provided, which of thefollowing elements is associated with the cost of risk financing (if any) for the electronics manufacturer?

-The 5% interest paid on the $4 million loan. -The $500,000 in insurance premiums

-Person A faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $4. -Person B faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $4. -Person C faces a 50% chance of having a loss of $0 and a 50% chance of having a loss of $8.27. Suppose Person A purchases full insurance for an actuarially fair premium and Person A is the ONLY person in theinsurer's risk pool. Which of the following statements is (are) TRUE about this arrangement?

-The amount of risk the insurer faces with Person A being their only customer is 1. -The actuarially fair premium for Person A is $2.

Which of the following is an example of a subjective risk measurement?

-The danger of a new medication, as determined by Joe Rogan -The level of danger of a horror movie, as determined by personal opinion

Which of the following is an example of an objective risk measurement?

-The level of safety of a car, as determined by crash test results -The risk of a flood in a particular area, as determined by meteorological data and historical records -The risk of heart disease, as determined by a study of genetic factors and lifestyle choices

Consider the possibility of providing property insurance contracts which would cover losses due to terrorism. In general,this loss exposure is not an ideally insurable risk because of which of the following?

-The loss is potentially catastrophic to the insurer. -The insurer would have a very high risk charge.

Which of the following is an example of an objective risk measurement?

-The risk of getting a cold, as determined by a medical study of infection rates. -The likelihood of a stock market crash, as determined by historical data and economic analysis.

For which of the following risks does the US (federal or state governments) have an insurance 'mandate' of some form?

-Worker's Compensation -Unemployment -Flood Risk -Auto Liability

[1m - 18 ] Find the expected value for this distribution: Loss: Probability: $0 0.3 $100 0.3 $200 0.4

110

[[1m - 13 ] A life insurance policy pays out $200,000 if the insured dies within 10 years, and nothing otherwise. The annualprobability of death for the insured is 0.005 for the first 5 years and 0.01 for the last 5 years. Ignoring disconting and investmentretrns, what is the actuarially fair premium for this policy? (round to nearest 00s)

14500

Find the expected value for this distribution: Loss: Probability: $0 0.2 $150 0.4 $300 0.4

180

[1m - 1 ] Consider a dice roll with probability of getting a 6 being p = 0.1667 and probability of getting any other numberbeing q = 0.8333. If it is 6, you win $1. What is the coefficient of variation for this probability distribution? (round to nearest .00s)

2.24

Loss: Probability: $0 0.4 $500 0.6 [1m-15] Given the above probability distribution table for a random variable Y, what is the expected value of Y? (round to nearest00s)?

300

You are on the final step of the RM process. Previously you chose insurance as a way to finance property risk (toyour factory in Florida) as the market was very soft. What is an example of an event that may have caused the market toharden?

A major hurricane making landfall in Florida. A worldwide financial crisis.

What is an example of moral hazard in the context of insurance?

A policyholder neglecting to install a burglar alarm because they know they're insured against theft

What is the central limit theorem?

A reason why normal distributions are common in nature

What is bottomry in the Code of Hammurabi?

A type of maritime insurance. A form of loan.

John is a retired man, he knows that he is more likely to need long-term care services in the future. He decides topurchase a long-term care insurance policy, which will cover the cost of a nursing home or assisted living facility. This is an example of what? Lena is a young woman and she is aware that she has a family history of breast cancer. She decides to purchase a critical illnessinsurance policy, which will pay her a lump sum in case she is diagnosed with breast cancer. This is an example of what?

Adverse selection; Adverse selection

Mark has a brand new sports car and he is aware that he has a tendency to drive fast and recklessly. He refuses topurchase a usage-based auto insurance policy, which will track his driving habits and adjust his rates accordingly. This is an example of what? Julie is a healthy non-smoker, she knows that her risk of incurring significant medical expenses is low. She decides to purchasea high-deductible health insurance plan with lower monthly premiums. This is an example of what?

Adverse selection; Adverse selection

Andrew Garfield enters a building that has had it's floor removed but didn't have up any warning signs. He falls severalstories and injures himself. In addition to medical costs, this prevents him from playing the role of Secretariat in a movie. Which of the following is the loss?

Andrew's injuries. Him missing out on the movie.

Which of the following statements accurately describe challenges insurers face when insuring against catastrophicrisks?

Catastrophic risks often require government intervention, as private insurers may not have sufficient capital to cover extreme losses. The law of large numbers is less effective due to the correlation of losses across a large geographic area.

A risk-loving person has what shaped utility function?

Convex

Removal of an insurance mandate will likely lead to which of following?

Fewer people will buy insurance. Higher cost of insurance.

During a project's initiation phase, the project manager decides to create a list of potential events that could negativelyimpact the project's outcomes. This process is known as

Risk Identification

A manufacturing plant implements regular equipment checks and safety training for employees to minimize workplaceaccidents. These measures are examples of:

Risk control

An investor refuses to invest in a highly volatile stock market based even though they believe that higher risk leads tohigher rewards. This behavior reflects a:

Risk-averse attitude

Alex, a cautious driver with no history of accidents, and Jordan, a driver with multiple speeding tickets, both applyfor auto insurance from the same company. Given the insurer cannot perfectly differentiate between the risk levels of individual drivers, which of the following is likely to occur due to adverse selection?

Safe drivers like Alex may end up paying premiums that are higher than their actuarial fair value, subsidizing riskier drivers like Jordan

What factor/s does/do not contribute to a firm's appearance of being risk averse?

Shareholders' individual risk preferences

How did the mutual aid societies of the Alpine farmers differ from other forms of insurance during the 16th century?

They focused on sharing risk rather than analyzing and trading it