Principles of Risk & Insurance
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What is risk?
Uncertainty concerning the occurrence of a loss
What are the types of risk?
Objective risk and subjective risk
What is objective risk?
Defined as the relative variation of actual loss from expected loss.
What is subjective risk?
Defined as uncertainty based on a person’s mental condition or state of mind.
What is objective probability?
Refers to the long-run relative frequency of an event assuming an infinite number of observations and no change in the underlying conditions.
What is subjective probability?
Is the individual’s personal estimate of the chance of loss.
What is a peril?
- Is defined as the cause of the loss.
- In an auto accident, the collision is the peril
What is a hazard?
Is a condition that increases the chance of loss.
What are physical hazards?
Conditions that increase the chance of loss (icy roads, defective wiring).
What is a moral hazard?
Dishonesty or character defects in an individual, that increase the chance of loss (faking accidents, inflating claim amounts).
What is a morale hazzard?
Is carelessness or indifference to a loss because of the existence f insurance (leaving keys in an unlocked car).
What is a legal hazzard?
Refers to characteristics of the legal system or regulatory environment that increase the chance of loss (large damage awards in liability lawsuits).
What are the basic categories of risk?
- • Pure and Speculative Risk
- • Fundamental and Particular Risk
- • Enterprise Risk
What is a pure risk?
Is one in which there are only the possibilities of loss or no loss (earthquake).
What is a speculative risk?
Is one in which both profit or loss are possible (gambling).
What is a fundamental risk?
Affects the entire economy or large numbers of persons or groups (hurricane)
What is a particular risk?
A risk that affects only the individual (car theft)
What is a enterprise risk?
Encompasses all major risks faced by a business firm, which include: pure risk, speculative risk, strategic risk, operational risk, and financial risk
What are the types of pure risk?
- 1. Personal risk
- 2. Property risk
- 3. Direct loss vs. indirect loss
- 4. Liability risks
What are personal risks?
Involve the possibility of a loss or reduction in income, extra expenses or depletion of financial assets.
What are property risks?
- Involves the possibility of losses associated with the destruction or theft of property:
- Physical damage to home and personal property from fire, tornado, vandalism, or other causes.
What is a direct loss?
Is a financial loss that results from the physical damage, destruction, or theft of the property, such as fire damage to a restaurant.
What is a indirect loss?
Results indirectly from the occurrence of a direct physical damage or theft loss, such as lost profits due to inability to operate after a fire.
What are a liability risks?
Involves the possibility of being held liable for bodily injury or property damage to someone else.
What three major burdens risk results place on society?
In the absence of insurance, individuals would have to maintain large emergency funds
The risk of a liability lawsuit may discourage innovation, depriving society of certain goods and services
Risk causes worry and fear
What are the methods of handling risk?
- Loss control
- Noninsurance transfers
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