Chapter 4

Question 1

Capacity

Answer 1

refers to the relative level of surplus.

Question 2

Capital budgeting

Answer 2

method of determining which capital investment projects a company should undertake

Question 3

Catastrophe bonds

Answer 3

are ­corporate bonds that permit the issuer to skip or reduce scheduled payments if a catastrophic loss occurs.

Question 4

Catastrophe modeling

Answer 4

computer-assisted method of estimating losses that could occur as a result of a catastrophic event.

Question 5

Chief Risk Officer (CRO)

Answer 5

responsible for the treatment of all the risks facing the organization, and for creating a program to successfully manage these risks.

Question 6

Clash loss

Answer 6

occurs when several lines of insurance simultaneously experience large losses

Question 7

Combined ratio

Answer 7

the ratio of paid losses and loss adjustment expenses plus underwriting expenses to premiums

Question 8

Compounding

Answer 8

Because you are earning interest on interest (compound interest), the operation through which a present value is converted to a future value

Question 9

Dependent events

Answer 9

the occurrence of one event affects the occurrence of the other

Question 10

Discounting

Answer 10

bringing a future value back to present value

Question 11

Enterprise risk management

Answer 11

a strategic business discipline that supports the achievement of an organization’s business objectives by addressing the full spectrum of its risks and managing the combined impact of those risks as an integrated risk portfolio

Question 12

Financial risk

Answer 12

refers to risk created by the changing value of financial assets, commodities, currencies, and interest rates.

Question 13

“Hard” insurance market

Answer 13

periods of tight underwriting standards and high premiums

Question 14

Hazard risk

Answer 14

risk associated with the organization’s property, liability, and personnel-related loss exposures

Question 15

Independent events

Answer 15

the occurrence does not affect the occurrence of another event

Question 16

Insurance option

Answer 16

option that derives value from specific insurable losses or from an index of values.

Question 17

Internal rate of return (IRR)

Answer 17

the average annual rate of return provided by investing in the project.

Question 18

Intranet

Answer 18

private network with search capabilities designed for a limited, internal audience.

Question 19

Loss distribution

Answer 19

probability distribution of losses that could occur.

Question 20

Mutually exclusive events

Answer 20

if the occurrence of one event precludes the occurrence of the second event

Question 21

Net present value (NPV)

Answer 21

the sum of the present values of the future net cash flows minus the cost of the project.

Question 22

Operational risk

Answer 22

risk arising out of an organization’s operations. A helpful framework for identifying this risk is to consider risks developing from people, processes, systems, and external events.7

Question 23

Predictive analytics

Answer 23

analysis of data to generate information that will help make more informed decisions

Question 24

Regression analysis

Answer 24

characterizes the relationship between two or more variables and then uses this characterization to predict values of a variable

Question 25

Risk management information system (RMIS)

Answer 25

computerized database that permits the risk manager to store, update, and analyze risk management data and to use such data to predict and attempt to control future loss levels

Question 26

Risk appetite

Answer 26

the total exposure that an organization is willing to accept, given the risk and return trade-off for an individual risk or in aggregate for the portfolio of risks

Question 27

Risk map

Answer 27

grid on which risks facing the organization are charted based on potential frequency and severity of loss to the organization

Question 28

Risk register

Answer 28

a listing of the risks faced by an organization with pertinent information about each risk

Question 29

Risk tolerance

Answer 29

is the amount of uncertainty that an organization is willing to accept.

Question 30

Securitization of risk

Answer 30

means that insurable risk is transferred to the capital markets through creation of a financial instrument, such as a catastrophe bond, options contract, or other financial instrument.

Question 31

“Soft” insurance market

Answer 31

periods of loose underwriting standards and low premiums

Question 32

Strategic risk

Answer 32

are external risks to the organization. Such risks include economic and demographic trends, industry sector trends, acts of competitors, and regulatory actions.

Question 33

Surplus

Answer 33

the difference between an insurer’s assets and its liabilities

Question 34

Time value of money

Answer 34

means that when valuing cash flows in different time periods, the interest-earning capacity of money must be taken into consideration

Question 35

Underwriting cycle

Answer 35

cyclical pattern in underwriting stringency, premium levels, and profitability

Question 36

Value at risk (VAR)

Answer 36

the worst probable loss likely to occur in a given time period under regular market conditions at some level of confidence

Question 37

Weather option

Answer 37

provides payment if a specified weather contingency (for example, temperature above a certain level or rainfall below a specified level) occurs.