Final Exam

Dividend options: Policyholder can receive dividends as:

Cash Purchase paid-up additional insurance: Increase the face amount. Typically the default option on a policy Accumulate at interest Offset premiums (pay premiums due) Purchase one-year term insurance : Increases the face amount for one year

2) Income and Wealth

Degree of risk aversion may decline as wealth increases Limited liability may cause less wealthy people to buy less liability insurance coverage

After determining whether you NEED life insurance, then determine ...

How much life insurance do you need? Replace income or Life insurance needs analysis

4) Other Sources of Indemnit

If others will pay uninsured loss, buy less coverage

3) Information Asymmetric Information/Adverse Selection

Individual's perception of loading Underestimate the true risk buy less insurance Overestimate the true risk buy more insurance

Key Points from a Cost/Benefit Perspective If insured what happens to wealth when: If loss does not occur If loss does occur Variance of potential loss amount

Insurance decreases wealth if a loss does not occur Insurance increases wealth if a loss does occur Insurance decreases variance of potential loss amounts

Product Innovation: Universal Life Like whole life: Unlike Whole Life:

Permanent death protection + savings accumulation Can borrow against cash value (i.e., loans) Greater flexibility with premium payments CSV varies explicitly over time based on: premium payments, expenses, mortality charges, and credited interest (rate of return on savings) Beneficial when rates are high!

Which Type to Buy Depends on Need: Is it Temporary or Permanent? For Personal needs, what happens if you have temporary (term) or Permanened (whole life)? For business needs next one .....

Personal needs Temporary (Term): Pay off debt; kids' education Permanent (Whole Life): Estate taxes; adult dependent children; bequest motives

1) Premium Loadings

Premium = Expected Loss + Loading As loading increases, quantity of insurance purchased generally falls

What is the purpose of whole life insurance?

Provides coverage when a person dies to help with immediate and ongoing expenses and provides income for loved ones. It is also used for paying estate taxes, tax advantaged charitable giving, and estates for children and grandchildren. Business owners also use it for a number of tax saving and wealth preserving strategies

Goal setting. What do you do in this step?

What is a goal you have before 30? By 50? When do you want to retire? Possible goals: To own a home? Travel the world? Or ...? Think in terms of shorter and longer-term goals. As well, consider your needs and wants.

Risk evaluation: Death

What is the impact of the death of a family member? Is there enough money to pay bills? Is there enough money for monthly needs? Will someone else need to work? Can the family maintain their standard of living? How much income is required to maintain the same standard of living? Measure the gap between what is available and what is needed Who needs life insurance? Who needs life insurance Who doesn't need life insurance? Alternatives for managing risk of death? Is loss control a reasonable alternative

LAST CHAPTER: Life insurance PRICING!!!

!!!

A risk averse person would require________________ before accepting the aforementioned gamble.

"compensation" Look at slide 9

If you are 40 years old, P of dying is 0.00302. and the face value is $100,000. What is the premium?

$100,000 * 0.00302 = $302

UTILITY THEORY CALCULATIONS EXCELLLLLL Expected utility? Calculate Certainty equivalent? Maximum premium? Risk premium?

((Wealth if loss)^U ) * Pof loss + ((Wealth no loss)^U) * Pofnoloss U*CE = E(u(w)) Initial wealth - CE Expected wealth - CE or Max premium - Expected loss

Death Benefit Options with UL

- Level death benefit (as with WL) The death benefit automatically increases if the cash value approaches the policy's face amount. Why? -Variable death benefit: Death benefit increases as cash value increases The amount of net death protection equals the face amount of the policy at all times Net death protection = Total death benefit - CV = FV

Problems with government reinsurance* arrangements.

- Potential pricing issues - Large surpluses *Reinsurance: Insurance for insurers

Policyholder loans: Borrow against? Repay? What if the policyholder dies prior to repayment? What is policyholder protection: Automatic premium loan provision?

Borrow against the cash value of the policy Permanent insurance only The loan balance reduces the death benefit Prevents policy from lapsing

Risk management process

Establish the context Risk assessement Identify Analyze Evaluate risk Risk treatment

Personal financial planning process?

Evaluation (Where are we today?) Goal setting (Where do we want to go?) Action ( How do we get there?) Monitoring (Are we on right track)

The effect of insurance on wealth. Slide 4 $100,000 with equal probability i.e. There is a .5 chance of a $20,000 loss for a person with $100,000... What is Expected level of loss? What is Expected level of Wealth?

Expected Level of Loss = $10K Expected Level of Wealth = $90K

Death protection = From graph

Face amount - CV

Financial planning supports your?

Life It involves not only planning for the future ... it's about the continuum of your life, including today.

What are the 4 corner stones of financial planning?

Living benefits Liquidity Retirement Financial security at death

Section 2 (G) Voluntary payment for property damage

Pay for uniententoinal direct damages you cause to property even though you are not legally liable. $250/ occurrence

Section 2(F) Voluntary medical payments

Pay reasonable medical expenses incurred within one of the date of the accident, if you uninententionally harm another person. Only covers residense employees. $2,000/ Occurrence

Descriptions of Major Coverages, Table 12-2. Section 1 - Property*? Section II-Liability? IMPORTANT!!!

Section 1 - Property* A. Dwelling building Replacement Value (e.g., $400,000) B. Detached private structures 10% of value in A C. Personal property 40-60% of value in A D. Additional living expenses 20% of value in A Section II-Liability E. Personal Liability $1,000,000 (choose) F. Voluntary medical payments $2,000/occurrence G. Voluntary payment for property damage $250/occurrence H. Voluntary compensation for residence employee Per schedule

Whole life: Premium Payment Options? What are the benefits of these payment options?

Single Premium whole life policy Flat (Level) Premium options: . Limited pay whole life (e.g for 20 years or till age 65) . Continuous premium ("Straight life") .Benefits include budgeting and potential tax advantages.

Three option for Effect of insurance on wealth. Three options.

Take a look Slide 5. Wealth without insurance With partial insurance Full insurance

Life insurance products: Two types? Both types of permanent insurance provide?

Temporary (Term) insurance Death protection only Permanent Insurance: Ordinary Whole life (WL) Universal Life (UL) Both types of permanent insurance provide: Death protection + Savings accumulation

Life insurance products are either

Temporary (term insurance) or ' Permanent (whole life or universal life)

Types of Life Insurance

Term life insurance Permanent life insurance

Permanent life insurance

Term: Whole life Premiums are paid till death or for a specific period of time, e.g. age 65 Pays a lump-sum benefit when the insured dies More expensive than Term Typically has a cash value or savings component Three types: Term to 100 (no cash value); Whole life; Universal L

Term Life Insurance

Term: typically 10, 20 years or longer. Pays a lump-sum benefit if the insured person dies within that term. Generally provides the most coverage at the lowest initial premium Typically term policies are renewable and most can convert to a permanent policy

Under all 3 methods??

The PV of epected premium payments is the same for all 3 methods, but the timing of cash flows differes.

Risk premium?

The additional expected wealth ($200) needed to induce the risk averse person to accept the gamble is the premium required to compensate the person for the risk. More risk averse individuals require a higher risk premium.

What does the mortality table tells us?

The probability of dyign at age X conditional on living to age x Probability of male dying at age 40 (given that he has reached age 40)

Flat Premiums: Benefit

Think of it as a long-term financing plan.

Action. What do you do in this step?

Track your spending Create a monthly budget Pay yourself first Pay off debt Ensure appropriate and adequate insurance home, auto, disability, life Get help creating a FP that looks at the whole picture. Example: ATB Planning Tool

Fig 13.4 slide 23 variable death benefit option vs level death benefit option

Variable: Death benefit = Face Amount + Cash value Level: Death benefit = Face Amount unless cash value approaches face amount.

Special limits of insurance If there is theft it only insures what??? What other perils are there that if it happens it wont insure these 5 items??? If these other perils happen it will cover things such as ?

We Insure: • Jewellery, watches, gems, fur garments and garments trimmed with fur, up to $2,000 in all • Numismatic property (such as coin collections) up to $200 in all • manuscripts, stamps and philatelic property (such as stamp collections) up to $1,000 in all • collectible cards (such as sports personality cards) up to $1,000 in all; • each bicycle, its equipment and accessories, up to $500 in all The above limits do not apply to any claim caused by a Specified Peril. Specified Perils: Fire • Lightning • Explosion • Smoke due to a sudden, unusual and faulty operation of any heating or cooking unit in or on the premises • Falling object which strikes the exterior of a building • Impact by aircraft or land vehicle • Riot • Vandalism or malicious acts, not including loss or damage caused by theft or attempted theft • Water damage (sudden and accidental) • Windstorm or hail • Transportation (loss or damage to insured property caused by collision, etc.) Books, tools, securities up to 2,000, Garden type tractors, computer software, ...Examples: Money, securities, computer software •

We do not insure ( perils/losses not insured): 20. loss or damage caused by water unless the loss or damage resulted from:

We do not insure ( perils/losses not insured): • 20. loss or damage caused by water unless the loss or damage resulted from: • a. the sudden and accidental escape of water from a watermain ; • b. the sudden and accidental escape of water or steam from within a plumbing, heating, sprinkler or air conditioning system or domestic water container, which is located inside your dwelling ; • c. the sudden and accidental escape of water from a domestic water container located outside your dwelling, but such damage is not insured when the escape of water is caused by freezing; or • d. water which enters your dwelling through an opening which has been created suddenly and accidentally by a Specified Peril other than Water Damage; BUT we do not insure loss or damage ... (see policy) NOTE: Endorsement is available for sewer - backup

Section 2(E) Personal liability

Will pay all sums which you become legally liable to pay as compensatory damages because of uniententioinal bodily injury or property damages arising out of: Your personal actions, your ownsership. Dont insure on some things also. $1,000,000 (Chose)

Coverage B: Detached Private Structures

insure structures or buildings on your premises separated from the dweling by a clear space but not insured undr coverage A. If connected by fence, utility line, or similar connnection only, the are considered detached. 10% of value in A

Temporary versus Permanent: Which one is better

it depends

Coverage E: Personal Liability Coverage: Who is Covered?

• "Insured" means the person(s) named as Insured on the Coverage Summary page and, while living in the same household: • his or her spouse; • the relatives of either; and • any person under 21 in their care. • Also, a student enrolled in school who is dependent on the Named Insured or his or her spouse even if temporarily residing away from the principal residence • Also insured: A person liable for damage arising from a watercraft or animal; residence employee while operating motorized vehicles/trailers covered by this form; legal representative after your death; an insured person who continues to reside at your home after your death.

We do not insure (perils/losses not insured):

• 9. scratching, abrasion or chipping of any personal property or breakage of any fragile or brittle articles unless caused by a Specified Peril, accident to a land vehicle, watercraft or aircraft, or theft or attempted theft; • 10. wear and tear, deterioration, defect or mechanical breakdown; • 11. the cost of making good faulty material or workmanship; • 12. settling, expansion, contraction, moving, bulging, buckling or cracking except resulting damage to building glass; • 15. Caused by any nuclear incident • 21. Caused by snow slide, earthquake, landslide or any other earth movement. • Etc.

Section I: Extensions of Coverage

• Additional coverages provided at no additional cost in the policy. • Not included in the limit of Coverages A - D i.e. they are in addition to the stated coverage •Examples include: Debris removal, fire department charges, property removed, lock replacement, credit or debit cards, forgery and counterfeit money, inflation protection, freezer food. • See policy in Appendix for full details

Chapter 12 Homeowners Insurance

.

Coverage D: Additional Living Expense & Loss of Use

. Additional living expense: Covers necessary increase in living expense for a reasonable time • Fair rental value; • Prohibited access As a direct result of damage to neighbouring premises by an insured peril. By order for mass evacuation as a direct result of a sudden and accidental event within Canada. • Exclusions apply (e.g. war, earthquake).

Life Insurance and Annuities Chapter 13

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Pricing one year term ..

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Question slide 16,17 &18

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2 application questions

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Pricing 2 year term

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Class 24 ,,,, Chapter 13 continued..

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Pricing 2 Year term single premium

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Pricing 2 year term level premium ...

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CLASS 23 Personal Financial Planning

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Five Other Factors Affecting the Demand for Insurance

1) Premium Loadings 2) Income and Wealth 3) Information 4) Other Sources of Indemnity 5) Non-monetary Losses PIION

Most people behave as if they are risk averse in the following two important dimensions:

1) Pure risk: They pay a positive loading amount when purchasing insurance. In other words they are willing to pay a risk premium to avoid or reduce risk. 2) Speculative risk: They require additional expected return to invest in riskier securities. In other words they require a risk premium to accept a risky scenario.

Government - sponsored Reinsurance arrangements for Catastrophic Perils Potential advantages of Government compared to Private Insurance:

1. Reduced cost of maintaining a pool of capital to pay future catastrophic losses (if there is preferential tax treatment) - Could also be done by private insurers. 2. Can facilitate risk pooling over time: - Can borrow so costs are pooled across years.

Legal Interests in a Life Insurance Contract

1. The insured is the individual whose death ultimately causes the policy to "mature" as a death claim; 2. The beneficiary is the party who will be receiving the proceeds of the death benefit upon the death of the insured. 3. The owner is the individual who can exercise the policy's five contractual rights:

Section I: Exclusions We do not insure (Property not insured):

1. buildings or structures used in whole or in part for business or farming purposes; • 3. any property illegally acquired, kept, stored or transported, or property subject to forfeiture; • 5. sporting equipment where the loss or damage is due to its use; • 6. animals, birds or fish unless the loss or damage is caused by a Specified Peril other than impact by aircraft or land vehicle; • 8. Outdoor radio and TV antennae and their attachments caused by wind or hail, weight of ice, snow or sleet • Etc.!

Examples of losses

3 slides on it.

Risk Aversion

A preference towards a certain outcome over one with variability given they both have the same expected value. Thus, a risk averse person prefers a certain amount of wealth to a risky situation with the same expected wealth. The gamble does not change a person's expected wealth, but it makes the person's wealth uncertain. A risk averse person therefore would prefer not to accept the gamble. By not accepting the gamble, you are saying that the possible loss of $1K hurts more than the possible gain of $1K benefits you. This is the essence of risk aversion: A loss of $X hurts more than a gain of $X benefits you because money means more to you when you have less of it!

IF the expected level of loss for example is $200, then a risk averse person would?

A risk averse person would pay more than $200 to eliminate the risk

What about a risk loving (risk seeking)

A risk loving (risk seeking) person would also not require a risk premium to accept the gamble; this person would "pay" to engage in the gamble.

What about a risk neutral person?

A risk neutral person would not require a risk premium to accept the gamble; a risk neutral person only cares about maintaining a minimum level of expected wealth, their initial wealth.

Homeowners comprehensive form

AB&D --> Covers: All risks except those excluded C --> Covers: All risks except those excluded

Homeowners Broad Form

AB&D --> Covers: All risks except those excluded C --> Covers: Fire, extended coverages, eletricity, transportation & theft.

From this table... Homeowners basic

AB&D --> Covers: Fire, extended coverages, eletricity and glass breakage. C --> Covers: Fire, extended coverages, eletricity, transportation and theft

Risk adverse person would actually?

Alternative to saying that a risk averse person requires "compensation," we may also say a risk averse person would be willing to "pay" more than the expected loss to reduce (or avoid) risk.

Section 2 (H) Voluntary compensation for residence employee

Automatically provided for all your occasional residnece employees. Per schedule.

What does warrant buffet recommend?

Avoid debt, especially credit card debt Use savings to buy indexed funds; Focus on long-term value Don't try to time the market

How are Death Benefits Paid? Settlement Options

Cash (lump sum - most common) or Annuities: Interest only (leave money on deposit) Fixed period (annuity certain) E.g. 10 years Fixed amount (annuity certain) E.g. $300 per month Life Income Options Ordinary annuity or life annuity With or without minimum period guarantee

Cash Value Accumulation: Universal Life

Cash Value + Premium payments at beginning of period - Mortality charge at beginning of period - Expense charge at beginning of period + Interest credited at end of period = Cash value at end of period

Surrender options - Options if policy is terminated. Policyholder receives the CSV as:

Cash; or Reduced paid-up insurance . CSV is used as a single premium to buy the same type of permanent insurance; or Extended term insurance . Use CSV to purchace extended term insurance for face amount of policy

Evaluation. What is your current situation. What do you do in this step?

Current cash flow, net worth, tax projections, etc. Then consider your needs and goals ... Identify problem areas (gaps) / opportunities: Example. If you want to retire at 60, how much should you be saving each month?

Face amount is what?

Death benefit (amount received by beneficiary)

Term Insurance

Death benefit over a fixed term Pure death protection, no savings feature Whole life insurance has a Cash Surrender Value or CSV - explained later! Premiums increase over time (if renewed) .. Increases with probability of dying... Flat for the term of the policy and then increases Most policies are: guaranteed renewable (even if your health changes!) convertible (to permanent insurance)

Loss example

Deductible applies once to the entire loss.

The largest insured loss in Canada?

Fort McMurray Wildfire

Homeowners is a _____________ policy? Covers what?

Homeowners is a multiple-line policy Covers first-party property, third-party liability and indirect losses (e.g. staying in a hotel after a fire damages your home

Homeowners is a _______________ policy? Covers?

Homeowners is a multiple-peril policy • Covers multiple perils (causes of loss) • Named peril policy Fire, lightning, explosion, etc. (only the things named) • All-risk or all-peril policy "Everything but ..."

Homeowners vs Business coverage? Do each one have "All in one policy" ?

Homeowners: • Coverage for: • Property • Liability • Additional living expense (indirect loss) • All in one policy Business: • Coverage for: • Property • Liability • Business interruption (indirect loss) • All in one policy? It depends...

Interested in being a Financial Planning Professional? There is enormous opportunity! Why?

Huge wealth transfer in the next 20 years More people moving into retirement Many financial planners also retiring Less reliance on government security

Coverage A: Dwelling Building & Attached Structures

Includes permanently installed outdoor equipment; outdoor swimming pool; materials on the premises intended for use in construction. • Up to 5% to trees, plants and shrubs (if loss was caused by fire, lightning, explosion, impact, riot, vandalism, malicious acts ONLY). $500 per tree. • Lawns excluded.

Dection 1 (C) Personal Property

Insure shit like jewerly, wathces, gemsm, collectible cards, bycicles, books, securities, cash cards, and etc..... Does not insure motorized vehicles, camper trucks, aircrafts. 40%-60% of value in A

Section 1 (B) - Detached private structures

Insure structures or buildings on your premises separated from the dweling by a clear space but not insured undr coverage A. If connected by fence, utility line, or similar connnection only, the are considered detached. 10% of value in A

Section 1 (A) - Dwelling building

Insure the swelling and attached structures. Insure permanently installes outdoor equipment on premises Outdoor swimming pool and attached equipment on premise. Materials and supplies located intented for construction All Replacement value (eg. $400,000)

How does life insurance work?

Insured pays a premium and if the insured dies during the term of the policy his/her beneficiary receives the death benefit

Business needs - Examples Whats a buy-sell agreement?

Key person insurance Buy-sell agreement: Provides funds to cover the financial needs of a business owner's heirs, employees, creditors, surviving partners, shareholders

Slide 6 importanyt .. to lazy to write down .

Memorize

What affects the premium?

Mortality (expected claim costs) = E(loss) Profit Expenses Time value of money (Insurers investments)

Section 1(D) Additional living expenses

Move out expenses, reolocate expenses and shit 20% of value in A

Utility Theory Basics Objective? Constant marginal utility? Deminishing marginal utility?

Objective: To maximize ones utility. In a world of uncertainty this is equivalent to maximizing ones "expected utility" (EU) w = wealth amount ($) u(w) = utility of wealth function reflects ones level of happiness ("utils") constant marginal utility (risk neutral individual) u(w) increases at a constant rate Examples: u(w) = w, u(w) = 2w diminishing marginal utility (risk averse individual) u(w) increases at a decreasing rate Examples: u(w) = w1/2 , u(w) = ln w

Types of permanent life insurance:?? Contract length for whole life:?

Ordinary Whole life Universal life Contract length: Whole life Policy is in place until the policyholder dies, surrenders the policy, or reaches age 100

Flat Premiums: Benefit Overpayment in early years "finances" the __________ in premiums in later years. Result? This "savings", or the CSV or CV, is ___________________________________________________________________________________________ and belongs to policy holder. The policyholder only receives CSV if _____________________________________________________________________________

Overpayment in early years "finances" the increase in premiums in later years Result? Money is saved with the insurance company This "savings," or the cash surrender value (CSV) or cash value (CV), is credited with a rate of return and belongs to the policyholder The policyholder only receives CSV if policy lapses or is terminated

5) Non-monetary Losses

Pain and suffering Loss of heirloom Loss of consortium

Participating Whole life insurance: Pay what?

Pay annual (or regular) dividends . Arise due to conservative assumption regarding operating experience and rates of return .Treated as return of premiums, not taxable Illustrated dividends . May imply that premiums will "disappear" of dividends grow and are applied toward future premiums ....

Universal life has 2 main features?

Premium flexibility No fixed premium schedule Cash surrender value is not fixed in advance Cash Value Accumulation The cash value of a universal life policy varies over time Whole life is fixed in advance. Death benefit and savings accumulation are unbundled Usually guaranteed to earn a minimum rate of return Projections of future cash values are only a projection No guarantee they will increase at a particular rate

How to calculate premiums?

Premiums are based on probability of dying.

Premium increases as?

Probability of dying increases

Whole life insurance Provides what? Pays what?

Provides death protection and savings accumulation (Cash surrender value or CSV) ** CSV is established when policy goes into force Policy pays Death benefit, or face amount ** generally a fixed amount for the duration of the policy, or can change over time: Decreasing, Indexed to inflation, increased with guaranteed insurability option.

Slide 25 ,26, 27, 28,

Questions

Risk analysis: Death

Risk analysis (today, in 15 years) What is the probability of dying For you? http://www.besthealthdegrees.com/health-risks/ For Tom, Sarah? What is the impact of dying For you? For Tom? For Sarah? For Will? Kate?

Risk identification for example: Death Costs/losses for Tom/Sarah???

Risk of death.....Costs/losses for Tom/Sarah Funeral, other immediate expenses Loss of income (Tom) Loss of child care (Sarah) Possible taxes Other: Changes in managing the household In general, ability to maintain standard of living

Other Liability Coverage Coverage F? Coverage G? Coverage H? Special limitations?

• Coverage F: Voluntary Medical Payments • Coverage G: Voluntary Payment for Damage to Property • Includes intentional damage by an insured 12 or under • Coverage H: Voluntary Compensation for Residence Employees • Special Limitations: • Watercraft; • Motorized vehicles; • Trailers; • Business and business property. • See policy.

Section I: Exclusions • Coverage is not provided for these types of losses.

• Coverage is not provided for these types of losses. • Examples: • Buildings used for business purposes; • sporting equipment where the loss or damage is due to its use; • wear and tear ("bound to happen"; e.g. food spoilage unless caused by an insured peril); • certain water damage, • animals, birds or fish unless the loss is caused by a specified peril, etc. • Review exclusions in policy (Ask yourself: Why are they excluded?)

Coverage C: Personal Property

• Covers property owned or used by the insured (at home or property temporarily away from premises) • Can include uninsured personal property of others while on your premises; • Can include personal property of others while in your possession (not property of borders); • Includes the personal property of any student insured by this policy who is temporarily living away from home.

Property Loss Settlement on: Dwellings and Other Structures ? Personal Property?

• Dwellings & Other Structures • Replacement cost (most insurance) • Guaranteed replacement cost (need the right limits at the time of purchase) • Actual Cash Value = RC - physical depreciation • Personal Property • Replacement cost • Exceptions apply. • Example: articles that cannot be replaced with new articles because of their inherent nature or property that is no longer used for its original purpose. • Actual cash value will be paid in these instances (ACV = Replacement cost - depreciation)

Reasons for Exclusions

• Eliminate coverage for uninsurable loss exposures • Assist in managing moral hazard • Reduce likelihood of coverage duplication • Eliminate coverages not needed by the typical insured • Eliminate coverages requiring special treatment • Assist in keeping premiums reasonable

Other Property Coverage Forms

• Homeowners Forms (discussed earlier) • Tenants Forms • No coverage for the building • Additional living expense = 20% of property • Choose between Comprehensive (All-risk) or Basic • Condominium Unit Owners Forms • No coverage for the building, but coverage for improvements and betterments • Loss Assessment Coverage If underinsured Legal liability of Condo Corp

Case Study: California and the Northridge Earthquake

• Impact: $12.5B in insured losses • Insurers attempted to • Reduce exposure to Earthquake • Stop selling HO coverage • California response: • Restricted insurers' ability to cancel or fail to renew; • Insurers were required to offer EQ coverage. • California created the CA Earthquake Authority • A state-run, privately financed plan for insuring EQ risk; Deductible = 10-15% of value

Why was there disruption in the insurance market after Hurricane Andrew ($16B loss)?

• Insufficient capital? Lack of planning? Lack of reinsurance? • 7 small insurers became insolvent • Allstate announced it would drop 1/3 of its Florida homeowners policies and would seek a 41% increase • Florida legislature responded: • Restrict insurers' ability to stop selling policies for 3 years • Couldn't cancel or fail to renew more than 5% of their policies in one year or 10% in a single county • Requirement for insurers expanding in Florida • Must write a certain amount of business in high risk areas • Hurricane CAT Fund (provide reinsurance to insurers) • All insurers operating in FL must participate • Residual market for homeowners' insurance • Created an insurer of last resort

Alternatives for Financing Catastrophic Perils

• New Capital Market Instruments to finance Catastrophic Losses • Contingent equity - Investors pre-commit to purchasing new common stock • CAT bonds • Advantages: • Insurers hold less capital - get it only when they need it. • Leads to lower tax cost and lower agency costs • Reduced moral hazard • Insurers cannot impact the likelihood of an event occurring

Coverage E - Exclusions What is the exception for one of them (important)?

• Primarily excludes loss or damage to the insureds' own property. • i. Damage to property owned, used, or occupied by insured • ii. Damage to property in your care, custody or control. • iii. Bodily injury to you or to any person residing in your household other than a residence employee. • Important exception to i.: • Premises liability coverage for property damage to premises or their contents, which the insured is using, renting, leasing or has in his custody or control caused by fire, explosion or sudden unusual and accidental damage caused by smoke from a household heating or cooking unit, or water escape

Personal Umbrella Policies • To insure against large liability losses

• Provides excess coverage of at least $1 million • Covers losses which exceed other primary coverages such as homeowners or auto liability coverages • May "drop down" for losses not covered by primary policy

Special Limits of Insurance (under Coverage C)

• Some limits apply to all types of losses • Examples: Money, securities, computer software • Other limits apply only to theft losses (i.e. the limit does not apply if the loss is caused by a specified peril - see next slide—but theft is NOT a specified peril) • Examples (for theft only losses) include: • Jewelery, gems, fur: $2,000 in all. . Numismatic property (such as coin collection) • Manuscripts, stamps, etc: $1,000 in all. • . Collectible cards Bicycle: Up to $500 in all • Personal Articles Endorsement --> Provides all-risk coverage for property everywhere on a valued basis • No deductible

Section II: Liability Coverage E: Personal Liability Coverage

• The insurer will pay all sums which you become legally liable to pay as compensatory damages because of unintentional bodily injury or property damage arising out of: • Your personal actions anywhere in the world; • Your ownership, use, or occupancy of the premises defined in Section II. • Also pays for defense costs and other claim settlement costs (regardless of limits) • Ex. $1 million limit. $1 million liability claim. Insurer will pay the claim and all costs to defend and settle.