1. Nature & Features of Risk Flashcards
What is the definition of risk?
No universal definition as perceptions differ
Elements of uncertainty and unpredictability
What are the alternative meanings of risk?
- Peril / contingency insured eg fire risk
- Thing actually insured eg factory
- Wider definition = thing insured, range of contingencies or scope of cover
What are the 2 attitudes to risk?
Risk seeking = willing to carry risk
Risk adverse = look to minimise
What is the definition of Risk Management?
Taking control/developing formal strategy for managing risks that affect business
What does good risk management focus on?
- Identification and treatment of defined risks
- Continuous and developing process
- Methodically address risk for current, past and future activities
Why is risk management important?
- reduces potential for loss
- increases shareholder confidence
- disciplined approach to quantifying risks
Name the 3 stages of risk management
- Risk identification
- Risk analysis
- Risk control
What is risk identification?
- First stage of risk management
- Discover existing and potential threats, not all will be insurable but must be managed
What is risk analysis?
- Second stage of risk management
- Risk managers examine past data to evaluate or analyse the risk
- Predict what is likely to happen
What is risk control?
- Third stage of risk management
- Where a risk has potential for adverse consequences a course of action is put into place to control, reduce or eliminate the risk
- Elimination is most effective but may be costly or impractical
What are the different aspects of controlling risk?
- Physical control measures
- Financial control measures (insurance / contract)
- Developing good risk culture (improving awareness or educating)
How are internal risk controls categorised?
DETECTIVE - detect errors or irregularities
CORRECTIVE - correct errors or irregularities
PREVENTATIVE - keep them from occurring in the first place
What is the insurer role in risk management?
Impose requirements and make recommendations to improve the risk
Offer premium reduction as an incentive
Training, guidance or literature
Use more advanced technological capabilities
Name examples of risk management tools used by insurers
Fraud is key risk that needs mitigating
- Motor Insurance Anti-Fraud and Theft Registered (MIAFTR) = formed by ABI, records details of all TLs and will be alerted if new claim matches data
- Claims and Underwriting Exchange (CUE)
- National Fraud Database
- Insurance Fraud Register
Name professional / industry bodies involved in risk management
- AIRMIC
- Fire Protection Association (FPA) - researches, set rules and standards and publish reports
- Thatcham Research Centre - test vehicle safety and security systems
- National Cyber Security Centre - research for management of cyber risks
- Loss Prevention Research Council - research and development to help develop crime / loss control solutions
Name the risks that can be insured
- Financial
- Pure
- Particular
Name the risks that cannot be insured
- Non-financial
- Speculative
- Fundamental
What is a financial risk?
For a risk to be insurable the outcome of an adverse event must be measurable in financial terms
Most insurance is compensatory in nature
What is a non-financial risk?
Outcome is not measurable in financial terms eg loss of enjoyment of a holiday
May have financial implications but outcome is NOT measurable
What is a pure risk?
Possibility of loss but not gain
Best can achieve is a break even situation
What is a speculative risk?
aka business risk but are associated with gambling
Three possible outcomes: loss, break-even or gain
Don’t insure as undertaken voluntarily in the hope of gain and risk element completely removed if knew insurer would cover any losses eg investing in stock exchange
Pure and particular aspects may be able to be insured
What is a particular risk?
Localised or personal in their cause and effect
Cause may be widespread eg storm in region but effect is localised or related to that individual (not all properties in the region will be damaged)
What is a fundamental risk?
Arise from cause outside control of any individual / group and effects usually widespread
Loss is often catastrophic
Risks may arise from political, social, economic or natural cause eg earthquake and war
May have particular consequences for individuals that can be insured - earthquake is insurable in areas where it’s not likely
What is a benefit policy?
Important exemption to rule that outcome must be measurable in financial terms - personal accident and sickness policies
No way to precisely know value such as loss of sight
Policies taken out to provide pre-agreed amount in event of accident or sickness
What are the 3 requirements for insurability?
- Event must be fortuitous - accidental or unexpected, not all elements of loss / damage may be fortuitous
- Insurable interest - legally recognised financial relationship between insured and object / liability being insured
- Not against public policy - recognised in law that contracts must not be against public policy or go against what society considers the right or moral thing
What are homogenous exposures?
Ideal but not requirement for insurability
= sufficient number of exposures to similar risks
Helps to forecast expected frequency and likely extent of losses
Achieved using law of large numbers - predictions more accurate as base of data used increases in size
What are the components of risk?
- Uncertainty
- Level of risk
- Peril
- Hazard
What is uncertainty?
At the centre of risk
Uncertainty of the future - if we know what is going to happen then there is no risk
What is the level of risk?
Assessed in terms of frequency (how often) and severity (how costly)
Inverse relationship - as one increases the other decreases
High frequency / low severity - using the law of large numbers is predictable
Low frequency / high severity - difficult to predict due to random nature
What is a peril and what is a hazard?
Peril = that which gives rise to a loss
hazard = influences the operation or effect of the peril
What are physical and moral hazards?
Physical hazard = physical characteristics of the risk and includes any measurable dimension
Moral hazard = attitude and behaviour of people
Conduct of the insured / employees and society as a whole, also the way a business is run
Name some examples of physical and moral hazards
Good physical hazard - high standard of building construction
Poor physical hazard - poor security at a shop
Good moral hazard - excellent safety protocols and training
Poor moral hazard - driver’s lack of care
