Ch1 Risk and Its Treatment

1. Definitions of Risk
2. Chance of Loss
3. Peril and Hazard
4. Classification of Risk
5. Major Personal Risks and Commercial Risks
6. Burden of Risk on Society
7. Techniques for Managing Risk

Hwang Yawen
1. Definitions of Risk

Traditional Definition of Risk

Uncertainty concerning the occurrence

of a loss (p.22, 損失發生的不確定性)
• Examples in the textbook (p.22)

Max: Mary already chat with you on the

Facebook for one week. She might like
you. Do you want to ask her for a date?。

Chris: No. It is too risky. I am afraid that

she rejects. Climbing alone is a high-risk activity.
Being a rescuer is a high-risk job.
 1. Definitions of Risk
Traditional Definition of Risk
Risk vs Uncertainty (p.23)
In economics and finance
✓ Risk is used in situations where the
probabilities of possible outcomes are known
or can be estimated with some degree of
accuracy (“風險”通常用在對於可能結果發生
機率已知，或在一定程度上可準確估計其機率
之情形)
✓ Uncertainty is used in situations where such
probabilities cannot be estimated (“不確定性”
則通常用在對於可能結果發生機率無法估計之
情形)
✓ Examples in the textbook (p.23)
Other Definition of Risk (note 2, p.41)
1) Variability in future outcomes (未來結果的變化
性)
2) Chance of loss (損失機會, p.24)
3) Possibility of adverse deviation from a
desired outcome that is expected or hoped
for (出現預期或希望之預期結果不利偏差的可能
性)
4) Variation in possible outcomes that exist in a
given situation (存在於給定情況下的可能結果
之變化)
5) Possibility that a sentient entity can incur a loss
(有意識的實體會遭受損失之可能性)
1. Definitions of Risk

High risk？
 1. Definitions of Risk

Loss Exposure (損失曝險, p.23)

Any situation or circumstance in which a loss is possible, regardless of whether a loss occurs
(指任何具有發生損失可能性之狀況或條件，無論其是否實際發生)
• Examples in the textbook

Objective risk (客觀風險): the relative variation of Subjective risk (主觀風險): uncertainty based on
actual loss from expected loss (實際損失相對於預 a person’s mental condition or state of mind (個
期損失之變異程度, p.23)
人主觀意識所感受到之不確定性, p.23-24)
 example in the textbook (insurers)  perceived risk (感知風險)
 decreasing with (the square root of) the  the impact varies depending on the
number of cases under observation individual
 statistically calculated by some measure of
 other factors? (example on the next page)
dispersion
 law of large numbers: as the number of exposure
units increases, the more closely the actual loss
experience will approach the expected loss experience
 1. Definitions of Risk

The factors can influence

subjective risk?
 2. Chance of Loss

Chance of Loss (損失機會, p.24)

The probability that an event will occur (損失機會為事件發生之機率)

Objective probability (客觀機率): the long-run

relative frequency of an event based on the
assumptions of an infinite number of observations
and of no change in the underlying conditions (在
基本條件沒有變化下，基於無限數量觀察樣本假設
下，某事件發生之長期相對頻率, p.24)
Subjective probability (主觀機率): the
individual’s personal estimate of the chance of
loss (個體對於損失機會之個人估計, p.24)

• Deductive reasoning
• Inductive reasoning
• Examples in the textbook
2. Chance of Loss

Chance of Loss (損失機會)

✓ Chance of loss is the probability that an event that causes a loss will occur (損失機會係
指會導致損失之事件的發生機率, p.24)
✓ Objective risk is the relative variation of actual loss from expected loss (客觀風險係指
實際損失相對於預期損失之變異程度, p.24)

The chance of loss may be identical for two different groups, but objective risk may be
quite different! (p.24)

City # homes Average # Range Chance of Objective

fires Fire Risk
Philadelphia 10,000 100 75 – 125 1% 25%
Los Angeles 10,000 100 90 - 110 1% 10%
 3. Peril and Hazard

Peril (危險事故, p.25) Hazard (危險因素, p.25)

the “cause” of the loss (損失的原因)
• property damage because of fire,
windstorm, or lightening (Natural Perils)
• damage to your car because of a
collision with another vehicle (Human
Perils)
A peril is a potential event or factor that can cause a
loss, such as the possibility of a fire that could engulf
a house.
a “condition” that “creates” or “increases” the
frequency or severity of loss (使損失頻率或幅度增
加之條件)
 physical hazard (實質危險因素)
 moral hazard (道德危險因素)
 attitudinal hazard (morale hazard)
(態度/心理危險因素)
 legal hazard (法律危險因素)
A hazard is a factor or activity that may cause or
exacerbate a loss, such as a can of gasoline left outside
the house door or a failure to regularly have the brakes of
a car checked.
 3. Peril and Hazard

• The factors of risk Risk exposure

(風險標的)

Hazards
(風險因素) Peril Vulnerability
(風險事故)
(風險事故發生後的經濟結果)

Example
David, taxi driver, had a car accident after drinking alcohol.
He hit May walking by the road and his car was damaged (in the garage for one week).
 Repairing the car: $50,000
 Paying May: $500,000
 Expected loss business income: $20,000
 3. Peril and Hazard
Physical hazard (p.25)
a physical condition that increases the
frequency or severity of loss
1 2
3 4
Attitudinal Hazard (Morale Hazard) (p.25)
carelessness or indifference to a loss, which
increases the frequency or severity of a loss
Moral hazard (p.25)
dishonesty or character defects in an
individual that increase the frequency
or severity of loss
• difficult to control
• higher insurance premium
• underwriting and various policy
provisions
Legal Hazard (p.25)
the characteristics of the legal system
or regulatory environment that increase
the frequency or severity of losses
3. Peril and Hazard
Legal Hazard
4. Classification of Risk

Classification of Risk (風險之分類, p.25)

• Pure Risk and Speculative Risk (純粹風險與投機風險)
• Diversifiable Risk and Nondiversifiable Risk (可分散風險與不可分散風險)
• Enterprise risk (企業風險)
• Systemic risk (系統風險)
4. Classification of Risk
Pure Risk (純粹風險, p.25-26) Speculative risk (投機風險, p.25-26)
a situation in which there are only the possibilities a situation in which either profit or loss is
of loss or no loss (p.25) possible (p.23)

vs

 Private insurers generally concentrate on pure risks and do not emphasize the insurance of speculative risks
(商業保險公司通常著重於純粹風險，而非強調投機風險之業務, p.26)
 The law of large numbers can applied more easily to pure risks than to speculative risks (大數法則較易應用
於純粹風險中, p.26)
 Society may benefit from a speculative risk even though a loss occurs, but is harmed if a pure risk is present
and a loss occurs (投機風險之損失發生後社會仍可能從獲利，但純粹風險只會造成損害, p.26)
4. Classification of Risk
Diversifiable Risk (可分散風險, p.26)
✓ affects only individuals or small groups
✓ can be reduced or eliminated by
diversification
✓ also called nonsystematic risk (非系統風險)
or particular risk (特定風險)
vs
Nondiversifiable Risk (不可分散風險, p.26)
✓ affects the entire economy or large numbers
of persons or groups within the economy
✓ also called fundamental risk (基本風險)
✓ government assistance may be necessary to
insure nondiversifiable risks (social insurance)
4. Classification of Risk

Enterprise risk (企業風險, p.26-27)

encompasses all major risks faced by a business firm, which include: pure risk, speculative risk,
strategic risk, operational risk, and financial risk (包含商業公司所面臨的所有主要風險，包括：純粹
風險，投機風險，策略風險，營運風險和財務風險)

 strategic risk refers to uncertainty

regarding the firm’s financial goals
and objectives
 operational risk results from the
firm’s business operations
 financial risk refers to the uncertainty
of loss because of adverse changes in
commodity prices, interest rates,
foreign exchange rates, and the value
of money
4. Classification of Risk

Enterprise risk (企業風險)

4. Classification of Risk

Enterprise risk (企業風險)

4. Classification of Risk

Enterprise risk (企業風險)

4. Classification of Risk

Enterprise risk (企業風險)

Enterprise Risk Management (ERM) combines into a single unified treatment

program all major risks faced by the firm (Pure risk, Speculative risk, Strategic
risk, Operational risk, Financial risk) (企業風險管理係指將公司所有面臨之主要風
險合併由單一單位或計畫進行管理, p.25)

✓ As long as all risks are not perfectly correlated,

the firm can offset one risk against another,
thus reducing the firm’s overall risk
✓ Treatment of financial risks requires the use of
complex hedging techniques, financial
derivatives, futures contracts and other
financial instruments
4. Classification of Risk

Systemic risk (系統性風險, p.27)

the risk of collapse of an entire system or entire market
due to the failure of a single entity or group of entities that Financial crisis
can result in the breakdown of the entire financial system
(由於單一個體或一群個體的失敗而連帶導致整個系統或整
個市場一併崩潰之風險，可能導致整個金融系統崩潰)
✓ especially important with respect to large financial
institutions that are considered too large to fail without
doing major financial harm to the US economy
5. Major Personal Risks and Commercial Risks

Major Personal Risks (主要之人身風險) Premature

Retirement risks
death
(pure risk, p.27)

✓ Risks that directly affect an individual Alcohol & drug

or family addiction

✓ Involving the possibility of a substantial

loss or reduction of earned income, Poor
extra expenses or depletion of financial Unemployment
health
assets
5. Major Personal Risks and Commercial Risks

Premature death (早死, p.27-28) Poor health (健康狀況不佳, p.28-29)

the death of a family head with unfulfilled ✓ Payment of catastrophic medical bills
financial obligations (economic insecurity)
✓ The loss of earned income
 Human life value
 Additional expense ✓ Disability
 Insufficient income
 Noneconomic costs
5. Major Personal Risks and Commercial Risks
Insight 1.1 (p.29, http://disabilitycanhappen.org/pdq-2/)
5. Major Personal Risks and Commercial Risks

Retirement risks (退休後之風險, p.28)

Inadequate retirement income (退休收入不足)

退休金主要來源？ ( 最多選三項，% )

《遠見》與《施羅德投信》進行退休行為及勞退新制調查
(https://www.gvm.com.tw/event/2015schroders/survey01.html)
 5. Major Personal Risks and Commercial Risks

Retirement risks (退休後之風險, p.28)

《遠見》與《施羅德投信》進行退休行為及勞退新制調查(https://www.gvm.com.tw/event/2015schroders/survey01.html)

若沒有意願增加自行提撥，原因是什麼？ （開放題，複選，%）
5. Major Personal Risks and Commercial Risks

Retirement risks (退休後之風險, p.28)

國人財富態度大調查》60歲想退休？ 資金缺口達千萬 (2018/6/21)

5. Major Personal Risks and Commercial Risks

Unemployment (失業, p.29-30) Alcohol & Drug Addiction (酒精與藥物成癮, p.30)

✓ The causes of unemployment (p.29) ✓ Loss or reduction of earned income
✓ Leading economic insecurity problem ✓ Serious health problems
(p.30)
✓ Loss of a job or inability to work at a
 Workers lose their earned income steady job
and employer-sponsored
✓ Increasing in dysfunctional or broken
employee benefits
families
 Reduced income maybe
✓ Increasing in crime and overall
insufficient
deterioration in the quality of life in
 Long-term unemployment many neighborhoods
 Limitations and defects of state
employment insurance programs
5. Major Personal Risks and Commercial Risks

Property risks (財產風險, p.30-31)

the possibility of losses associated with the
destruction or theft of property
 direct loss
a financial loss that results from the
physical damage, destruction, or theft of
the property
(e.g., fire damage to a home)
 indirect or consequential loss
a financial loss that results indirectly
from the occurrence of a direct physical
damage or theft loss
(e.g., the additional living expenses
after a fire)
Reference: What is the difference between Direct and Indirect loss in Insurance?
(winsurtech.com)
5. Major Personal Risks and Commercial Risks
• Direct loss & indirect loss
David and his girlfriend took 5 days off and flied to Osaka. At the end of their
trip, the airport of Osaka was closed because of a typhoon. David re-purchased
flight tickets from Tokyo back to Taiwan for 3 days later.
Please list the direct and indirect losses of this case.
5. Major Personal Risks and Commercial Risks

Liability risks (責任風險, p.31)

the possibility of being held legally liable for bodily

injury or property damage to someone else (可能對他人
的人身傷害或財產損失所需承擔之法律責任)
✓ There is no maximum upper limit (沒有最大上限)
with respect to the amount of the loss
✓ A lien can be placed on your income and financial
assets
✓ Legal defense costs can be enormous
5. Major Personal Risks and Commercial Risks
Firms face a variety of pure risks that can have serious financial
Major Commercial Risks consequences if a loss occurs (企業面臨許多一旦發生可能會造成嚴重財務後
果之純粹風險, p.31)
• K7廠副總表示，日月光從去年
10停工後到今年4月試車，四個
月損失訂單7200萬美元
• 在台灣證券交易所，日月光半
導體的收盤股價在事件曝光該
週由12月9日的29.75元下挫至
12月13日的27.65元
• 依違反《廢棄物清理法》的
「任意棄置有害事業廢棄物罪」
判處日月光公司罰金300萬元
5. Major Personal Risks and Commercial Risks

Major Commercial Risks

5. Major Personal Risks and Commercial Risks
Major Commercial Risks (p.31-32)

such as damage to buildings, furniture and office

Property risks (純粹風險, p.31) equipment

such as suits for defective products, pollution, and

Liability risks (責任風險, p31-32) sexual harassment

Loss of business income when the firm must shut down for some time after a
(營運收入損失, p.32) physical damage loss

Cybersecurity and identity theft

(網路安全與個資竊盜, p.32) thieves breaking into a firm’s computer system

human resources exposures; foreign loss exposures;

Other risks (p.32) intangible property exposures; government exposures
5. Major Personal Risks and Commercial Risks
Major Commercial Risks (p.32)
5. Major Personal Risks and Commercial Risks
Major Commercial Risks (p.32)
6. Burden of Risk on Society
• The presence of risk results in three major burdens on society (p.32)
1) Larger Emergency Fund
In the absence of insurance, individuals and business firms would have to maintain
large emergency funds to pay for unexpected losses (在未購買保險下，個人和企業將必須
維持大量的緊急資金來支付非預期之損失, p.32)
6. Burden of Risk on Society
• The presence of risk results in three major burdens on society
2) Loss of Certain Goods and Services
The risk of a liability lawsuit may discourage innovation, depriving
society of certain goods and services (責任訴訟之風險可能會防礙創新，剝奪社
會某些商品和服務，課本例子, p.33)
3) Worry and Fear
Risk causes worry and fear (風險會導致擔憂和恐懼, p.33)
7. Techniques for Managing Risk

Risk Control (風險控制, p.33) Risk Financing (風險融資/風險理財, p.34)

The techniques that reduce the frequency or
The techniques that provide for the payment
severity of losses (and reduce the variation)
of losses after they occur (在損失發生後，提供
1) Avoidance (迴避) 損失給付之方法)
2) Loss prevention (損失預防)
3) Loss reduction (損失抑制) 1) Retention (自留)
2) Noninsurance transfers (非保險移轉)
➢ Duplication (複製)
➢ Separation (隔離) 3) Insurance (保險)
➢ Diversification (分散)

Risk control is highly desirable, because (p.34)

 The indirect costs of losses may be large
(even exceed the direct costs). By
preventing the loss from occurring, both
indirect and direct costs are reduced
 The social costs of losses are reduced
 7. Techniques for Managing Risk
Risk Control (風險控制)
Avoidance (p.33)
Not all risks
should be avoided
Loss prevention (p.33-34)
The activities to
reduce the frequency
of losses (probability)
Loss reduction (p.33)
The activities to reduce
the severity of losses
 Duplication
Having back-ups or copies of important
documents or property available in case a loss
occurs
 Separation
The assets exposed to losses are separated or
divided to minimize the financial loss from a
single event
 Diversification
Spreading the loss exposure across different
parties
 7. Techniques for Managing Risk

Risk Financing (風險融資/風險理財)

Self Insurance (自己保險, p.35)
an individual or business firm retains
Retention
part or all of the losses that can result ✓ a special form of planned retention by
(p.34-35)
from a given risk which part or all of a given loss exposure
is retained by the firm
 Active retention (主動自留/計畫性自留, p.35)
✓ Example in the textbook ✓ also called self-funding
✓ Means that an individual is aware of the risk and ✓ losses are funded and paid for by the firm
deliberately plans to retain all or part of it (chap.3)
✓ Reason
1) Saving money
2) Commercial insurance is either unavailable or Risk retention is appropriate
unaffordable primarily for high-frequency,
 Passive retention (被動自留/非計畫性自留) low-severity risks where potential
✓ risks may be unknowingly retained because of losses are relatively small
ignorance, indifference, laziness or failure to
identify an important risk
 7. Techniques for Managing Risk

Risk Financing (風險融資/風險理財)

Noninsurance
transfer (p.35-36) transfers a risk to another party
1) Transfer of risk by contract (使用契約來轉移風
險, p.35)
EX: hold-harmless clause (免責條款) in a contract
2) Hedging price risks (避險/使用衍生性金融商品,
p.35-36)
✓ A technique for transferring the risk of
unfavorable price fluctuations to a speculator
by purchasing and selling futures contracts on
an organized exchange.
✓ Transaction costs
3) Incorporation of a business firm (公司化, p.36)
transfers to the creditors the risk of having
insufficient assets
7. Techniques for Managing Risk

Risk Financing (風險融資/風險理財)

Insurance (p.36)

For most people, insurance is the most practical method for

handling major risks

Three major characteristics of private insurance

1) Risk transfer (風險移轉) is used because a pure risk is transferred to the insurer
2) The pooling technique (風險集合方法) is used to spread the losses of the few over the
entire group
3) The risk may be reduced by application of the law of large numbers (大數法則)
(Chapter 2)