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LM1 Exam > Chapter 1 (Fundamental Principles of Insurance) > Flashcards

Chapter 1 (Fundamental Principles of Insurance) Flashcards

1
Q

Risk management

A

The measurement and the means of attempting to deal with the risks we face

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2
Q

Insurance

A

Also known as a risk transfer mechanism.
The means of transferring a risk by the owner/insured paying a known premium to an insurer in return for the insurer accepting the future unknown cost of the insured risk.

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3
Q

Definitions of risk

A
  • Possibility of something unfortunate happening.
  • Doubt concerning how something will turn out.
  • Unpredictability.
  • Possibility of a loss and a chance there might be a gain.
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4
Q

Definitions of risk (used in insurance marketplace)

A
  • Peril being insured
  • Subject-matter of insurance
  • The thing insured, e.g. property itself, and the range of contingencies or scope of cover required.
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5
Q

Risk-seeking

A

Willing to carry certain risks.

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6
Q

Risk-averse

A

Happier minimising the risk to which they are exposed.

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7
Q

Risk Management

A

The identification, analysis and economic control of those risks which can threaten the assets or earning capacity of an enterprise.

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8
Q

AIRMIC

A

Association of Insurance Risk Managers (in Industry and Commerce).

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9
Q

Why is risk management important?

A
  • It reduces the potential for loss.
  • It gives shareholders confidence that the business is being properly run.
  • It provides a disciplined approach to quantifying risk.
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10
Q

What are companies on the stock market legally required to do?

A

Identify all significant risks to which the business is exposed and to explain in the annual report how these are being managed.

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11
Q

Focus of good risk managmenet

A

Identification and treatment of defined risks, it should be continuous and developing process embedded i a firm’s strategy.

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12
Q

Risk Identification

A

Involves the company discovering its possible existing and potential future threats - NOT ALL risks will be insurable but must be managed.

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13
Q

Risk Analysis

A

Risk managers examine past data to evaluate or analyze the risk.

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14
Q

Risk Control

A

If the risk is seen to have the potential for adverse consequences, some course of action should be put in place to control, reduce or even eliminate the risk.

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15
Q

What is the most effective method of risk control?

A

Elimination is the most effective, but my be costly or impracticable.

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16
Q

How do you test whether the cost of doing so is reasonable compared to the cost of the feared event happening?

A

The elimination of risk, or even its reduction.

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17
Q

What are the two distinct aspects to controlling a risk?

A
  • Physical controls, e.g. installing sprinklers and alarm systems.
  • Financial controls, e.g. making sure that contracts are well-worded.
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18
Q

How do insurers (and brokers) assist in the area of loss prevention and control?

A

By imposing requirements and making recommendations designed to improve the risk, following the completion of a survey.

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19
Q

What is the purpose of a pre-risk surveyor’s report?

A

To either improve the risk to an acceptable standard from the insurer’s point of view, or offer premium reduction as incentive for worthwhile risk improvements.

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20
Q

BRE

A

Building Research Establishment (researches areas of loss prevention and control).

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21
Q

FPA

A

Fire Protection Association (researches areas of loss prevention and control).

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22
Q

What is the purpose of an external organization who assesses risks?

A
  • Providing construction guidelines
  • Researching new construction methods
  • Providing reports on new industrial processes.
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23
Q

What are the three components of risk?

A
  • Uncertainty
  • Level of risk
  • Peril and hazard
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24
Q

Uncertainty

A

Implies doubt about the future, as a result of our incomplete ability to predict what is going to happen.

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25
Q

Level of risk

A

Frequency and severity. Both most be taken into account to assess risk - varies from one risk to another.

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26
Q

Frequency

A

How often it will happen

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27
Q

Severity

A

How serious it will be if it does happen

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28
Q

What is the significance of frequency and severity?

A

Insurers want their businesses to be free from great peaks and troughs in relation to claim payments made from one year to the next. Smooth trends in trading patterns tend to encourage investors to support an insurer.

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29
Q

Why do insurers want to predict the frequency and severity of losse?

A

To forward plan in order to be able to respond to infrequent large catastrophe-type claims and because they base their decisions on how much of a risk it can prudently accept on these factors.

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30
Q

What are the categories of risk?

A
  • Financial and non-financial risks
  • Pure and speculative risks
  • Particular and fundamental risks
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31
Q

Financial risks

A

For a risk to be insurable the outcome of adverse events must be capable of measurement in financial terms - most general insurances are compensatory in nature.

32
Q

Which set of claims are an exception to the rule that all risks have to have financial value?

A

Personal accident and sickness policies as there is no way of valuing precisely the loss of a life or the loss of sight so these policies are taken out in order to provide pre-agreed amounts in the event of an accident or sickness and are known as benefit policies.

33
Q

Pure risks

A

Insurable as there are risks where there is the possibility of a loss but not of gain, and where the best that we can achieve is a break-even situation.

34
Q

Fundamental risks

A

Risks that occur on such a vast scale that they are uninsurable, e.g. famine or economic recession. Defined as those that arise from social, economic, political or natural causes and are widespread in their effect.

35
Q

Why do insurers not insure fundamental risks?

A

Often a lack of appetite or capacity on the part of insurers that causes such risks to be difficult to insure or even completely uninsurable, e.g. risk of war.

36
Q

What are two fundamental risks in non-maine policies that are insured?

A

War risks and nuclear risks.

37
Q

Particular risks

A

Risks that are localized or even personal in their cause and effect.

38
Q

What 3 classifications of a risk are needed to make it insurable?

A
  • Financial
  • Pure
  • Particular
39
Q

What are the 4 features of insurable risks?

A
  • A fortuitous event
  • Insurable interest
  • The risk must not be against public policy
  • The risk must generally not be a one-off
40
Q

Fortuitous event

A

Accidental or unexpected and not inevitable for the insured.

41
Q

Insurable interest

A

The legally recognized financial relationship between the insured and the object or liability that is being insured. This can also be if you have responsibility for someone else’s goods if they’re stored at your warehouse.

42
Q

Public Policy

A

It is commonly recognized in law that contracts must not be against public policy or go against wat society considers to be the right or moral thing to do. Insurers should NOT cover risks that are against public policy.

43
Q

Homogenous exposures

A

A sufficient number of exposures to similar risks, historical patterns and trends will enable an insurer to forecast the expected extent of future losses. Risks also known as ‘objective risks’.

44
Q

Pooling of risk

A

Contributions, in the form of premiums from many insureds, go into this pool. From the pool, payments are made to compensate the losses of the few.

45
Q

What are the main priorities of pooling of risk?

A
  • Meet the losses in any one year.
  • Cover the costs of operating the pool and provide an element of profit for the insurer.
  • Ensure that the premium paid by the insured is proportionate to the risk which they introduce to the pool.
46
Q

Law of large numbers

A

Where there are a large number of similar situations, the actual number of events occurring tends towards the expected number (insurers benefit from this).

47
Q

Why is the law of large numbers beneficial to insurers?

A

Applying the principle of large numbers to insurance enables the insurer to predict fairly confidently the final cost of claims in any one year.

48
Q

Equitable premiums

A

Each insured wishing to join the pool must be prepared to make an equitable (fair) contribution to that pool.

49
Q

How to insurers decide an equitable contribution?

A

Insurers take into account the different elements of risk brought into the pool by each of the insureds - referred to as discrimination factors.

50
Q

Peril

A

Can be defined as that which gives rise to a loss, i.e. fire or flood.

51
Q

Hazard

A

Can be defined as that which influences the operation or effect of the peril.

52
Q

Examples of peril

A
  • Explosion
  • Lightning
  • Collision
  • Dishonesty
53
Q

Physical hazard

A

Relates to the physical characteristics of the risk and includes any measurable dimension of the risk.

54
Q

Examples of physical hazard

A
  • Security protection at a shop
  • The construction of the property
  • Age of a proposer and type of car for motor insurance.
55
Q

Moral hazard

A

Arises from the attitude and behavior of people - usually the conduct of the insured. Also arises from the conduct of the insured’s employees and that of society as a whole.

56
Q

Examples of moral hazard

A
  • Carelessness
  • Dishonesty
  • Social attitudes
  • Way in which a business is run.
57
Q

3 reasons for buying insurance for individual or business

A
  • Their attitude to their potential risk
  • What price they are prepared to pay for the peace of mind which insurance gives
  • The extent to which they feel they have a choice about insuring the risk.
58
Q

What is the primary function of insurance?

A

To act as a risk transfer mechanism between the insured and the insurer.

59
Q

3 primary functions of insurance

A
  • Spreading the risk
  • Providing a degree of certainty
  • Transferring risk
60
Q

6 secondary functions of insurance

A
  • Companies do not have to set aside large sums of money
  • Companies can be confident to look to expand their business
  • Jobs are protected.
  • Losses are reduced in size and number
  • Insurers are largely investors of funds
  • ‘Invisible’ exports
61
Q

Compulsory insurance

A

The UK government has legislated to make certain forms of insurance compulsory, this varies from country to country.

62
Q

What are the two overall risks that need to be insured by law?

A
  • Private individuals - motor insurance and public liability insurance for the ownership of dangerous wild animals and/or dogs.
  • Professions and business = Motor insurance and employers’ liability insurance are compulsory for every business which uses motor vehicles on a road and has employees respectively.
63
Q

Why are certain forms of insurance compulsory?

A
  • To provide funds for compensation
  • In response to national concerns
  • Reputation of the profession
64
Q

Employers’ Liability (Compulsory Insurance) Act 1969

A

Made it compulsory for employers in Great Britain to effect employers’ liability (EL) insurance. Insures employers against their liability to pay compensation to employees who sustain bodily injury or disease, arising out of and in the course of their employment.

65
Q

Which act made it compulsory for employers in Great Britain to effect employers’ liability (EL) insurance?

A

Employers’ Liability (Compulsory Insurance) Act 1969

66
Q

What is the minimum required limit of indemnity for employers to employees?

A

£5 million although the insurance market provides £10 million as standard.

67
Q

ELTO

A

Employers’ Liability Tracing Office database - contains all new and renewed policies from 1 April 2011, together with any older policies that have had claims made on them or had been traced through the voluntary code that had existed previously. Insurers have to publish this information within three months, including information relating to subsidiary companies and all employee reference numbers (ERNs).

68
Q

What is the purpose of ELTO?

A

Designed to help find the insurer of their former employers where the claimant is suffering from a disease/injury caused at work (doesn’t guarantee that the insurance will respond).

69
Q

Road Traffic Act 1988

A

Stipulates that it is illegal to cause or permit the use of a vehicle on a public road (extended now to include ‘any other public place’) unless an insurance policy is in force, covering third party property damage and third party bodily injury or death.

70
Q

Riding Establishments Act 1970

A

All proprietors of riding establishments must have public liability insurance.

71
Q

Dangerous Wil Animals Act 1976 & Dangerous Dogs Act 1991

A

Compulsory insurance is defined in acts but the local authority which issues the appropriate license must be satisfied as to the adequacy of the insurance due to these acts.

72
Q

Liability insurance: dangerous wild animals and/or dangerous dogs

A

Compulsory insurance - Insurers don’t tend to issue a policy that only covers this but is normally covered as an extension to another insurance policy held by the insured/owner.

73
Q

Solicitors Act 1974 (and Solicitors Regulation Authority Indemnity Insurance Rules)

A

Solicitors must hold professional indemnity insurance due to financial losses suffered by clients as result of the solicitor’s professional negligence.

74
Q

Compulsory insurance for insurance intermediaries

A

Insurance intermediaries authorized by the FCA must have PI insurance. Need to hold insurance in respect of financial loss caused by their professional negligence up to substantial limits both for individual losses and on an aggregated basis (approx. £1m for single claim although FCA limits are expressed in euros).

75
Q

What is the fifth ‘Core duty’ within the CII Code of Ethics?

A

Members are required to: ‘treat people fairly regardless of: age, disability, gender reassignment, marriage and civil partnership, pregnancy and maternity, race, religion and belief, sex and sexual orientation.

76
Q

What is the purpose of the CII Code of Ethics?

A

To provide members of the insurance and personal finance profession with a framework in which to apply their role-specific technical knowledge in delivering positive consumer outcomes.

77
Q

What is the role of claims personell?

A
  • Deal efficiently and fairly with all claims presented.
  • Identify quickly those claims which are not valid and advise the insured and their representatives quickly.
  • Assess and calculate the funds to be set aside to pay the claim for both indemnity and any attendant costs (e.g. for experts), i.e. reserves.
  • Instruct any necessary experts.
  • Settle claims cost-effectively
  • Liaise with colleagues in other areas of the insurer’s operation to provide them with data relating to claims, both individual and in terms of trends and patterns.

LM1 Exam (1 decks)

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