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Chapter One
| Question | Answer |
|---|---|
| Risk | uncertainty concerning occurrence of a loss |
| Loss Exposure | situation where loss may or may not occur; basically a jargon term for risk Ex. manufacturing plants that may be damaged by flood or fire, defective products resulting in lawsuits, theft, employee injury |
| Objective Risk | expected loss determined from statistics and logic (it declines as number of exposures increases) |
| Subjective Risk | uncertainty based on person's mental condition or state of mind |
| Pure Risk | type of risk w/ possibility of either loss or no loss (possible outcomes = adverse or neutral |
| Speculative Risk | type of risk w/ possibility of loss or gain (you may profit or suffer a loss) |
| Diversifiable Risk | affects only individuals or small groups (reduced or eliminated by diversification, like it’s better to invest in many different stocks and bonds, then place all your money in one stock which may plummet then you’re screwed) |
| Non-Diversifiable Risk | affects entire economy or many people (rapid inflation, cyclical unemployment, nat disaster, war) |
| Enterprise Risk: STRATEGIC risk | uncertainty regarding financial goals and objectives (like if it enters a new line of business, it may be profitable or unprofitable) |
| Enterprise Risk: OPERATIONAL risk | ex. a bank offering online services may incur loss if hackers break into computer system |
| Enterprise Risk: FINANCIAL risk | risk because of change in commodity prices and foreign exchange prices and the like (examples: my company delivers cereal to walmart, we may incur loss if grain prices rise; my bank has large portfolio of treasury bonds – we incur loss if int rates rise) |
| Utility | satisfaction from wealth |
| Objective Probability | long run relative frequency of an event, assuming there are infinite number of observations and no change in underlying conditions (determined from deductive or inductive reasoning) |
| Subjective Probability | individual's personal estimate of the chance of loss |
| Chance of Loss vs. Objective Risk | chance of loss (the probability an event will occur) may be identical for two groups but objective risk may be different; COL may be derived from objective risk |
| Peril | cause of the loss (icy roads cause a collision - the COLLISION) |
| Hazard | condition that creates or increases the frequency or severity of loss (icy roads cause a collision - the ICE) |
| Type of Hazard: PHYSICAL hazard | physical conditions that increase the frequency or severity of loss |
| Type of Hazard: MORAL hazard | dishonesty or character defects in an individual, that increase the frequency or severity of loss (faking accidents, inflating claim amounts) |
| Type of Hazard: MORALE hazard | carelessness or indifference to a loss that increases the frequency or severity of loss (leaving keys in an unlocked car) |
| Type of Hazard: LEGAL hazard | refers to characteristics of the legal system or regulatory environment that increase the frequency or severity of loss (large damage awards in liability lawsuits) |
| Property Risk: DIRECT | financial loss resulting from physical damage, destruction, or theft of property (a fire damages the restaurant) |
| Property Risk: INDIRECT | financial loss from occurrence of direct physical damage or loss from theft (lost profits due to inability to operate after a fire) |
| Personal Risks | involve the possibility of a loss/reduction in income, extra expenses or depletion of financial assets. ie. most workers don't save enough for retirement, huge medical bills and loss of earned income |
| Avoidance | very basic way to avoid risk by just foregoing the activity all together (don't want to get mugged in sketchy neighbor hood, take alternative route; don't want to be sued for defective product, don't make that item) |
| Loss Control: Loss Prevention | reduce the FREQUENCY of loss (motorists taking defensive driving courses, airline security measures) |
| Loss Control: Loss Reduction | reduce the SEVERITY of loss (store installs sprinkler system so fire will be extinguished before ruining all the merchandise) |
| Retention | individual business firm retains part of the financial consequences of a given risk |
| Active Retention | type of retention where you're aware of the risk and plan to retain all or part of it, like by getting a huge deductible or just buying no insurance at all; there may not even be insurance available for the risk |
| Passive Retention | type of retention where you either don't know or don't care about the risk, like not purchasing major disability insurance |
| Non-Insurance Transfers | the risk is transferred to another party other than an insurance company; transferred through contracts, hedging price risks, or incorporation of a business firm |
| Liability Risk | damages you may face if you lose a lawsuit; there is no max limit w/ respect to the amount of the loss, you may have a lien placed on your income and assets to satisfy an adjustment, and legal defenses are costly |
| Commercial Risks | property risks, liability risks, loss of business income, and other risks (crime exposures, human resources exposures, foreign loss exposures, intangible property exposures, gov exposures) |
| Self-Insurance | form of planned retention where part or all of a loss exposure is retained by the firm |
| Non-Insurance Transfer: TRANSFER THROUGH CONTRACT | makes the next party responsible for damages, like I make stereos, I sell these to a retailer, I purchase a service contract which will make the retailer laible; transfer risk of rent increase by doing a long term lease; hold harmless clause |
| Non-Insurance Transfer: HEDGING PRICE RISKS | oil company hedge the oil price risk; multi-national firms hedge against the exchange rate risk; hedge fund managers hedge against interest rate risk |
| Non-Insurance Transfer: INCORPORATION | if a firm does this, the owner's personal assets cannot be attached by creditors for payment of firm's debts; allows the stock holders/owners to have limited liability |
Created by:
kmassey94
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