Insurance Principles, Market Types, and Risk Management Strategies

Risk

The possibility of loss

Hazard

A situation that raises the possibility of a loss

Peril

The cause of a loss

Underwriting cycle

A recurring rise and fall in prices and profits

Hard market

A period where it's difficult to find coverage and buyers must pay high prices

Soft market

A period where coverage is widely available and competition among insurers is high

Combined ratio

A metric used to measure the profitability of daily underwriting operations. Combined Ratio = Loss Ratio + Expense Ratio; Loss Ratio = (Incurred Losses and LAE) / Premiums Earned; Expense Ratio = Expenses Incurred / Premiums Written

TRIA

Provides a transparent system of shared public and private compensation and a federal reinsurance backstop for commercial property and casualty losses resulting from certified acts of terrorism

McCarran-Ferguson Act of 1945

Insurers have limited immunity under federal antitrust laws, allowing insurers to pool past claim information to develop accurate rates

Unearned premium

Portion of an insurance premium paid in advance that the insurance company has not yet earned because the coverage period hasn't occurred

Indirect loss

Loss of revenue

Direct loss

Reduction in value

Replacement cost

Actual cash value + depreciation

Actual cash value (ACV)

Replacement cost - depreciation

Self-insurance

The planned assumption of risk (planned retention)

Personal contracts

Insure a specific person and their financial interests rather than the physical property or item itself

Contracts of indemnity

Compensation is given to make someone whole after a loss.

Contracts of adhesion

The terms of the insurance policy are fixed and drafted entirely by the insurer and must be accepted or rejected by the policyholder without any opportunity for negotiation

Insurable interest

You should have a financial relationship with your property

Open-peril approach

Covers any sudden, accidental damage to your property unless the specific cause of loss is explicitly excluded in the policy contract

Named-peril approach

A policy only covers losses caused by specific events or hazards explicitly listed in the contract

Blanket insurance

Provides one amount of insurance on more than one type of property at more than one location. 90% coinsurance is usually required

Insurance to value

The ratio between the insurance coverage limit and the current cost to completely rebuild or replace your property. Required for rate adequacy and equity

Coverage Amount/Replacement Cost

Proximate cause

The active, efficient, and dominant event that sets in motion an unbroken chain of events leading to a loss

Concurrent causation

A loss happens from 2 or more separate causes at the same time, or one after another, and only 1 has policy coverage

E&S insurance

A specialized market that provides coverage for high-risk, unique, or complex situations that standard insurers will not touch

Admitted market

Segment made up of insurers that are formally licensed by a state's insurance department to issue standard policies with rates and forms approved by state regulators

Non-admitted market

Coverage is provided by insurance companies that aren't licensed by the state where the risk is located

Principle of indemnity

Compensation is given to make someone whole after a loss

What are the 4 principles that support the principle of indemnity?

1) Principle of insurable interest; 2) Principle of subrogation; 3) Actual cash value; 4) Other insurance

Captives

Insurance companies created by a parent company

Self-Insurance

One company handles all insurance needs

Elements required for a valid insurance contract?

1) Agreement; 2) Consideration; 3) Competent parties; 4) Legal purpose

Agreement (contract element)

One party makes an offer, and the other accepts it

Consideration (contract element)

The exchange in value between both parties

Competent parties (contract element)

All participants must have the legal capacity to enter a contract

Legal purpose (contract element)

The contract's objective must be lawful and must not violate public policy

Retrospective rating plan

final premium is determined at the end of the insurance period; you pay a conditional premium at the start and it is adjusted at the end based on your losses

Regular Insurance

A fixed premium is paid at the start

Options for an insured who experiences fluctuating personal property values?

1) Peak season endorsement; 2) Value reporting form

Peak season endorsement

Provides differing amounts of insurance for selected time periods

Value reporting form

Written with a maximum limit higher than anticipated values on hand

Cause-of-loss forms available in BPP?

1) Basic form; 2) Broad form; 3) Special form

Basic form (BPP)

Covers 11 perils

Broad form (BPP)

Same 11 perils as the basic form + 4 others (15 total)

Special form (BPP)

Covers direct physical loss or damage from any cause unless specifically excluded or limited by the policy

Supporting principles for the Principle of Indemnity

Principle of insurable interest

Principle of subrogation

Actual cash value

Other insurance

Steps in the risk management process

Identify and analyze loss exposures

Examine alternative techniques

Select the best technique

Implement

Monitor and revise the program

Identify and analyze loss exposures

Identify the potential risks that could result in financial losses and evaluate their severity.

Examine alternative techniques

Come up with strategies that could help prevent or handle any risk.

Select the best technique

Select the best strategy out of the alternatives.

Implement

Put the selected strategy into action.

Monitor and revise the program

Regularly review the program to determine whether it is effective and make adjustments as necessary.

Risk management techniques

Loss reduction

Loss prevention

Avoidance

Loss reduction

Implementing measures to minimize the severity of losses when they occur.

Loss prevention

Taking steps to reduce the likelihood of a loss occurring

Avoidance

Making the probability of loss 0