Introduction to Risk Management and Insurance Finance Department of Shanghai University
Introduction to Risk Management and Insurance Finance Department of Shanghai University
1. Fundamentals Terminology Risks---Risk Management---Insurance Mathematical Foundation of insurance---Law of Large Numbers Definition of insurance Financial definition---Redistribution Legal definition ---Contracts Others, the insurer the insured a premium a Policy, the Insured's Exposure to Loss, Right duty
1. Fundamentals & Terminology ▪ Risks---Risk Management---Insurance ▪ Mathematical Foundation of Insurance---Law of Large Numbers ▪ Definition of Insurance Financial Definition---Redistribution Legal Definition---Contracts Others: the Insurer, the Insured, a Premium, a Policy, the Insured’s Exposure to Loss, Right & Duty
Terminology Loss Chance of loss Peril Hazard Moral Hazard morale hazard Proximate cause Insurable loss, Direct losses indirect losses Pure risk, speculative risk, risk management
▪Terminology: Loss, Chance of Loss, Peril & Hazard: Moral Hazard, Morale Hazard Proximate Cause Insurable Loss: Direct Losses & Indirect Losses Pure Risk, Speculative Risk, Risk Management
Building Blocks of an Insurance Premium A. The actual Cost of the losses B. The Expenses of Operating and Maintaining the Insurance pool C. An Allowance for Unexpected Losses or the risk Factor for the Insurance pool D. Earnings on Investment An Insurance premium=A+B+C-D Sometimes an insurance premium can be priced below the level of expected losses
▪Building Blocks of an Insurance Premium A. The Actual Cost of the Losses B. The Expenses of Operating and Maintaining the Insurance Pool C. An Allowance for Unexpected Losses, or the Risk Factor for the Insurance Pool D. Earnings on Investment An Insurance Premium=A+B+C-D Sometimes an insurance premium can be priced below the level of expected losses
2 Insurable Loss Exposures Not all potential losses are a good subject for nsurance I. Ideal insurable loss exposure 1. a large group of similar items exposed to the same peril 2. Accidental losses 3. Definite losses capable of causing economic hardship. 4. Extremely low probability of a catastrophic loss to the insurance pool
2. Insurable Loss Exposures Not all potential losses are a good subject for insurance I. Ideal insurable loss exposure 1. A large group of similar items exposed to the same peril. 2. Accidental losses. 3. Definite losses capable of causing economic hardship. 4. Extremely low probability of a catastrophic loss to the insurance pool
II Risk Classification Subsidization Adverse selection Principles of risk classification---fairness Separation and class homogeneity Reliabilit Incentive value a Social acceptability
II. Risk Classification ▪ Subsidization ▪ Adverse Selection ▪ Principles of risk classification---fairness ▪ Separation and class homogeneity ▪ Reliability ▪ Incentive value ▪ Social acceptability
3. Risk Management The risk management is carried out by firms before they go to buy insurance. The purpose is to reduce the risks exposure. I. Risk Management Staff Head: a manager with overall responsibility Insurance expert Claims manager Loss control engineer Financial analyst ecialist Employee benefits
3. Risk Management The risk management is carried out by firms before they go to buy insurance. The purpose is to reduce the risks exposure. I. Risk Management Staff ▪ Head: a manager with overall responsibility ▪ Insurance expert ▪ Claims manager ▪ Loss control engineer ▪ Employee benefits specialist ▪ Financial analyst
II. Statement of objectives and principles 1. Objectives: Survival, Growth, and Responsibility 2. Principles: Efficiency and Compliance 3. Risk Management Manual General Guidelines: (1 Engage in loss prevention activities as if all chance of loss remained with the company (2 Assume all risks that are not significant in relation to the company's financial strength (3) Insure all risks not assumed
II. Statement of objectives and principles 1. Objectives: Survival, Growth, and Responsibility 2. Principles: Efficiency and Compliance 3. Risk Management Manual General Guidelines: (1) Engage in loss prevention activities as if all chance of loss remained with the company (2) Assume all risks that are not significant in relation to the company’s financial strength (3) Insure all risks not assumed
Example: protecting the company's property against fire and associated perils: commitment to loss control, good housekeeping, sprinklers, adequate water supply, emergency organizations, regular inspections There are three steps in risk management process III Step One: Identification and measurement of exposures Direct property losses Losses of income and extra expenses following a property loss Losses arising from lawsuits called liability osses
Example: protecting the company’s property against fire and associated perils: commitment to loss control, good housekeeping, sprinklers, adequate water supply, emergency organizations, regular inspections There are three steps in risk management process III. Step One: Identification and measurement of exposures ▪ Direct property losses ▪ Losses of income and extra expenses following a property loss ▪ Losses arising from lawsuits called liability losses
Losses caused by the death, disability, or unplanned retirement of key people Estimation of maximum loss Emergency planning--disaster recovery IV. Step Two: loss control and risk financing (1 Loss control Risk avoidance oss prevention Loss reduction
▪Losses caused by the death, disability, or unplanned retirement of key people ▪ Estimation of maximum loss ▪ Emergency planning—disaster recovery IV. Step Two: loss control and risk financing (1) Loss control ▪ Risk avoidance ▪ Loss prevention ▪ Loss reduction