Test (Chapters 1-4) Flashcards
risk
a calculated possibility of a negative outcome
calculated possibility
a probabilistic outcome (chance of loss, likelihood of loss) that is known or estimated
0 (calculated possibility)
0%; impossible event (no risk)
0.5 (calculated possibility)
highest risk (most uncertainty)
1 (calculated possibility)
100%; certain event (no risk)
negative outcome
loss; must be quantifiable (in $)
frequency
the number of losses that occur within a specified time period; probability of a loss
frequency equation
number of losses/number of exposures
severity
the dollar amount of loss for a specific peril
severity equation
total losses ($)/number of losses)
peril
cause of loss (ex: fire, windstorm, flood, collision, burglary, etc.)
hazard
condition that creates or increases the frequency and/or severity of a loss; does not cause a loss
four types of hazards
physical, moral, morale (attitudinal), legal
physical hazard
a physical condition that increases the frequency and/or severity of a loss (ex: pipe breaking; electrical)
moral hazard
the presence of insurance changes the behavior of the insured (ex: using a hammer to create “hail” damage to a roof; exaggerating the value of insured property)
morale hazard
carelessness or indifference to a loss, which increases the frequency and/or severity of a loss (ex: leaving car keys in an unlocked car; neglecting a tree limb growing over your roof)
legal hazard
characteristics of legal system or regulatory environment that increase the frequency and/or severity of a loss (ex: juries in some jurisdictions are more sympathetic than other areas)
pure risk
2 future states (loss or no loss); ex: auto accident, fire, flood, cancer, slip & fall; can buy insurance for this risk
speculative risk
3 future states (loss, no loss/no gain, gain); ex: investment, gambling; cannot buy insurance for this risk
diversifiable risk
affects only individuals or small groups (car theft); can be reduced or eliminated by diversification; risks are not correlated
nondiversifiable risk
affects the entire economy or large numbers of groups/persons within the economy; cannot be reduced/eliminated through diversification; government assistance may be needed to insure; risks are correlated (inflation, unemployment)
enterprise risk
encompasses all major risks faced by a business firm (pure, speculative, strategic, operational, financial risks)
systemic risk
risk of collapse of an entire system or entire market due to the failure of a single entity or group of entities that can result in the breakdown of the entire financial system; instability in the financial system due to the interdependency between the players in the market
types of pure risk
personal, property, legal liability, loss of business income, cyber security
personal risk
directly affects an individual or family; involves the possibility of loss of income, extra expenses, depletion of financial assets
perils involved with personal risk
premature death, unemployment, disability/injury/poor health, inadequate retirement income
property risk
the possibility of losses associated with the destruction or theft of property
direct loss to property
cost to repair or replace property damaged by a peril