FINA4354 Exam 2 Review Key Terms

association/group captive

an insurer owned by several parents, such as corporations who belong to a trade association, which purchase insurance from the captive insurer

avoidance

a risk control technique in which a certain loss exposure is never acquired, or an existing loss exposure is abandoned

captive insurer

insurance company established and owned by a parent firm in order to insure its loss exposures while reducing premium costs, providing easier access to a reinsurer, and perhaps easing tax burdens

cost of risk

a risk management tool that measures certain costs in a risk management program, including insurance premiums paid, retained losses, outside risk management services, financial guarantees, internal administrative costs, taxes and fees, and certain other expenses

deductible

a provision by which a specified amount. that is subtracted from the total loss payment that would otherwise be paid

diversification

a risk-control technique that reduces the chance of loss by spreading the loss exposure across different parties, securities, or transactions

duplication

a risk-control technique that refers to having back-ups or copies of important documents or property available in case a loss occurs

excess insurance

the insurer does not participate in the loss until the actual loss exceeds a certain amount

loss exposure

any situation or circumstance in which a loss is possible, regardless of whether a loss occurs

loss frequency

the probable number of losses that may occur during some given time period

loss prevention

a risk-control technique that aims at reducing the probability of loss so that the frequency of losses is reduced

loss reduction

a risk management technique that refers to measures that reduce the severity of a loss after a loss occurs

loss severity

the probable size of the losses that may occur

manuscript policy

policy designed for a firm's specific needs and requirements

maximum possible loss

worst loss that could happen to a firm during its lifetime

noninsurance transfers

various methods other than insurance by which a pure risk and its potential financial consequences can be transferred to another party- for example, contracts, leases, and hold-harmless agreements

personal risk management

the identification and analysis of pure risks faced by an individual or family, and to the selection and implementation of the most appropriate technique(s) for treating such risks

probable maximum loss

worst loss that is likely to happen to a firm during its lifetime

retention

risk management technique in which an individual or a firm retains part or all of the losses resulting from a given loss exposure, used when no other method is available, the worst possible loss is not serious, and losses are highly predictable

retention level

a risk-financing technique in risk management where the firm retains part or all of the losses that can result from a given loss

risk control

risk management techniques that reduce the frequency or severity of losses, such as avoidance, loss prevention, loss reduction, duplication, separation, and diversification

risk financing

risk management techniques that provide for the funding of losses after they occur, such as retention, noninsurance transfers, and commercial insurance

risk management

systematic processes for the identification and evaluation of loss exposures faced by an organization or individual, and for the selection and implementation of the most appropriate techniques for treating such exposures

risk management manual

describes in some detail the risk management program of the firm and can be very useful tool for training managers, supervisors, and new employees who will be participating in the program

risk management policy statement

outlines the risk management objectives of the firm, as well as company policy with respect to treatment of loss exposures, educated top-level executives in regard to the risk management process. establishes the importance, role, and authority of the risk manager, and provides standards for judging the risk manager's performance

risk retention group

a group captive that can write any type of liability coverage except employers' liability, workers' compensation, and personal lines

self-insurance

a special form of planned retention by which part or all of a given loss exposure is retained by the firm

separation

a risk-control technique that divides assets exposed to loss to minimize the harm or loss from a single event

single parent captive (pure captive)

a captive insurer owned by only one parent, such as a corporation

capacity

the relative level of surplus; the greater the industry's surplus position, the more willing underwriters will be to write new business or reduce premiums

capital budgeting

method of determining which capital investment projects a company should undertake based on the time value of money

catastrophe bond

corporate bonds that permit the issuer of the bond to skip or defer scheduled payments of principal or interest if a catastrophic loss occurs

catastrophe modeling

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

chief risk officer (cro)

person responsible for the treatment of pure and speculative risks faced by an organization

clash loss

a term to describe a loss when several lines of insurance simultaneously experience large losses

combined ratio

the ratio of paid loss and loss adjustment expenses plus underwriting expenses to premiums, if the combined ratio is greater than one (or 100%), the underwriting operations are unprofitable

compounding

the operation which a present value is converted to a future value

dependent events

the occurrence of one event affects the occurrence of the other

discounting

the operation of bringing a future value back to present value

enterprise risk management

comprehensive risk management program that considers an organization's pure risks, speculative risks, strategic risks, and operational risks

financial risk

a risk that business firms face because of adverse changes in commodity prices, interest rates, foreign exchange rates, and the value of money

"hard" insurance market

a period in the underwriting cycle during which underwriting standards are strict and premiums are high

hazard risk

risk associated with an organization's property, liability, and personnel-related loss exposures

independent events

the occurrence does not affect the occurrence of another event

insurance option

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

internal rate of return (irr)

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

intranet

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

loss distribution

a probability distribution of losses that could occur

mutually exclusive events

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

net present value (npv)

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

operational risk

risk arising out of an organization's operations

predictive analytics

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

regression analysis

method of characterizing the relationship between two or more variables, and then using this characterization as a predictor

risk management information system (rmis)

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

risk appetite

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

risk map

map used in risk management that shows grids detailing the potential frequency and severity of risks faced by an organization

risk register

listing of risks faced by an organization's operations

risk tolerance

the amount of uncertainty that an organization is willing to accept

securitization of risk

describes the transfer of an insurable risk to the capital markets through the creation of a financial instrument, such as a catastrophe bond, futures contract, options contract, or other financial statement

"soft" insurance market

a period during which underwriting standards are more liberal and premiums are relatively low

strategic risk

risks that are external to the firm

surplus

the difference between an insurer's assets and its liabilities

time value of money

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

underwriting cycle

the cyclical pattern in underwriting standards, premium levels, and profitability

value at risk (var)

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

weather option

provides a payment if a specified weather contingency (e.g. temperatures higher or lower than normal) occurs

actual or express authority

specific powers given to the agent by the principal

actual cash value

value of property at the time of its damage or loss, determined by subtracting depreciation of the item from its replacement cost

agency agreement

contract between an insurance agent and insurance company that describes the powers, rights, and duties of the agent

aleatory contract

the values exchanged may not be equal but depend on an uncertain event

apparent authority

an agent who has the authority to act on behalf of the principal when actions or expressions by the principal to a third party lead a reasonable third party to believe that the principal authorized the agent to act

binder

authorization of coverage by an agent given before the company has formally approved a policy

broad evidence rule

the determination of actual cash value in a property insurance policy should include all relevant factors that an expert would use to determine the value of the property, such as replacement cost less depreciation, sales of similar property, opinions of appraisers, and numerous other factors

commutative contract

the values exchanged by both parties are theoretically even

concealment

deliberate failure of an applicant for insurance to reveal a material fact to the insurer

conditional contract

conditions are provisions inserted in a insurance policy that qualify or place limitations on the insurer's promise to perform; the insurer's obligation to pay a claim depends on whether the insured or beneficiary has compiled with all the policy conditions

conditional premium receipt

a receipt given to the applicant for life insurance; if the applicant is found insurable according to the insurer's underwriting standards, the life insurance becomes effective as the date of application, or in some premium receipts, the date of application or the date of the medical exam, whichever is later

conditions

provisions inserted in an insurance contract that qualify or place limitations on the insurer's promise to perform

contract of adhesion

the insured must accept the entire contract, with all of its terms and conditions; if there is ambiguity in the contract it is construed against the insurer

estoppel

legal doctrine that prevents a person from denying the truth of a previous representation of fact, especially when such representation has been relied on by the one to whom the statement was made

exchange of consideration

the value that each party in a contract gives to the other

fair market value

the price a willing buyer would pay a willing seller in a free market

implied authority

the authority of the agent to perform all incidental acts necessary to fulfill the purposes of the agency agreement

innocent misrepresentation

if relied on by the insurer, also makes the contract voidable

legal purpose

an insurance contract must be for a legal purpose; an insurance policy that promotes something illegal is contrary to the public interest and cannot be enforced

legally competent

parties to an insurance contract must have legal capacity to enter into a binging contract, most adults are legally competent, however, insane persons, intoxicated persons, or corporations outside the scope of their authority cannot enter into enforceable insurance contracts

material (fact)

if the insurer knew the true facts, the policy would not be issued, or it would be issued on different terms

offer and acceptance

the applicant for insurance makes the offer, and the company accepts or rejects the offer

pecuniary (financial) interest

a financial interest that may result in financial loss if death occurs

personal contract

the contract is between the insured and the insurer

principle of indemnity

a principle that states the insurer agrees to pay no more than the actual amount of the loss, the insured should not profit from a covered loss but should be restored to approximately the same financial position that existed prior to the loss

principle of insurable interest

a principal that states that the insured myst be in a position to lose financially if a covered loss occurs; to be legal enforceable, all insurance contracts must be supported by an insurable interest

principle of reasonable expectations

a principal that states that the insured is entitled to coverage under a policy that they reasonably expect it to provide, regardless of policy provisions, insurers cannot enforce exclusion and limitations in the policy that are inconsistent with the insured's reasonable expectations

principle of utmost good faith

a principle that states a higher degree of honesty is imposed on both parties to an insurance contract than is imposed on parties to other contracts

replacement cost insurance

there is no deduction for physical depreciation in determining the amount paid for a loss

representations

statements made by an applicant for insurance (for example, in life insurance) such as the applicant's occupation, state of health, and family history

subrogration

substitution of the insurer in place of the insured for the purpose of claiming indemnity payments from a negligent third party for a loss covered by insurance, the insurer is entitled to recover from a negligent third party any loss payments made to the insured

unilateral contract

only one contract makes a legally enforceable promise

valued policy

policy that pays the face amount of insurance, regardless of actual cash value, if a total loss occurs

valued policy law

laws requiring payment to an insured of the face amount o insurance if a total loss to real property occurs from a peril specified in the law, even though the policy may state that only the actual cash value will be paid