TOPIC 2: RISKS AND INSURANCE

Lecturer: PhD. Le Quy Duong.

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CONTENT OF LESSON
1. Risks
2. Nature of insurance
3. Principles of Insurance
4. Types of Insurance

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1. RISKS
 Risk:
The possibility of an unfortunate occurrence
 A combination of hazards
 Unpredictability – the tendency that actual results
may differ from predicted results
 Uncertainty of loss
 The possibility of loss
 Insurance is one of different methods protecting for
risks
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PURE RISK
....
injury
Lia.
risk
risk

fire illness
risk
risk Examples

living
too death
long risk
risk

Disability Accident
risk risk

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2. NATURE OF INSURANCE
 Insurance is a risk transfer mechanism by that the insured can
transfer the financial consequences of the risk to the insurer, in
return for paying a premium

 Insurance is a social device in which a group of individuals

(called “insureds”) transfer risks to another party (called
an“insurer”) in order to combine loss experience, which permits
statistical prediction of losses and provides for payment of losses
(indemnity) from funds contributed (premiums) by all members
who transferred risk.
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RISK TRANSFER MECHANISM:
Insurance Reinsurance
Brokers/Agent Brokers

Retrocession
INSURANCE REINSURANCE

INSUREDS INSURERS REINSURERS

Primary Securitization
insurance

Financial
markets
 Characteristics of insurance:
 Financial service (Financial intermediary)
 Protects risks (finances for insured losses)
 Bases on the principle of the large number

What are the differences between life insurance

products and deposit of banks?

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 Environment of insurance:
 Depends on the development of the economy
 Depends on the regulation environment
 Depends on insurance needs

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3. PRINCIPLES OF INSURANCE

1 Utmost good faith

2 Insurable risk

3 Insurable interest

4 Law of large number

5 Loss transfer mechanism

6 Proximate cause
3.1. Utmost good Faith
 All business transactions should be undertaken in
good faith. But insurance transactions be
undertaken in “utmost good faith’.
 Duty of disclosure

 Sanctions

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3.2. Insurable Risk
 an insurable event must be entirely fortuitous and
accidental loss and beyond the insured’s control.
 Risks must be pure risks, not speculative risks

 Financial measurement: a loss is capable of being

measured in financial terms.
 Risks must be homogeneous exposures: a large
number of similar exposures is a characteristic of
an insurable risk.
 Public policy: the insurance must not be contrary to
what society would consider to be the right and 11
moral thing to do – Social acceptability
3.3. Insurable Interest
 An insurable interest is said to exist when a
policy owner is likely to benefit if the insured
continues to live and is likely to suffer some loss
or detriment if the insured dies or the insured
property is harmed.
 In simple terms, the policy owner must be likely
to suffer a genuine loss if the insured dies or the
insured property is harmed. If an insurable
interest is not met when the policy is issued, the
policy is not valid.

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 Insurable interest (cont.)
 Ownership, management right,…
 Bloody relationship, marriage relationship
 Lender and borrower
 Employer and employee

 When does insurable interest exist?

 An insurable interest requirement must be met
before a policy is issued. After the policy is in force,
the presence or absence of insurable interest is no
longer relevant.

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3.4. Law of large numbers
 If it were not for the law of large number, insurance
would not exist.
 An insurance activity is only efficient if based on the
law of large numbers.
 The law of large numbers holds that a sample of
observations is increased in size, the relative variation
about the mean declines.

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3.5. The loss transfer mechanism
 To protect for insurers, insurer’s customers, the insurers
must minimize financial losses
 transfer loss in form of reinsurance or co-insurance.

 Co-insurance

 Reinsurance

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3.5. Loss Transfer
 Co-insurance

… is one method of sharing large risks,

commonly used in property insurance, rarely
used in liability and personal insurance

… the sum-insured is shared by several different

policies

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3.5. Loss Transfer (cont.)
 Co-insurance

Coinsurer 1 Coinsurer 2 Coinsurer 3 Coinsurer 4

40% 30% 10% 20%

Insured
Sum-insured

Disadvantage: complex for the insured to make claim

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3.5. Loss Transfer (cont.)
 Reinsurance:
 Transfers risks from the insurer to the reinsurer(s)
 The insurers insure the risk again

Reinsurer 1 Reinsurer 2 Reinsurer 3

40% 20% 10%

Primary insurer

retains 30%
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Insured
3.6. Proximate cause
 Proximate cause means the active, efficient cause
that sets in motion a chain of events which brings
about a results, without the intervention of any force
started and working actively from a new and
independent source.
 It is the dominate cause
 There is a direct link between the cause and the
result

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4. TYPES OF INSURANCE

Add Your Text

Social Insurance
Commercial
Insurance

Concept

Micro-insurance
Public
insurance
 Commercial Insurance (Private insurance):
including life insurance, health insurance
and general insurance
 Maximize profits
 Based on the insurance needs

 Devices by insurance enterprises

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 In terms of subject matter of insurance:
+ property insurance
+ liability insurance
+ personal insurance
 in term of technique of insurance:
+ General insurance
+ Life insurance
+ Health Insurance

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 Individual vs. enterprise
 Individual insurance: purchased by individuals and
families for their risk needs (products: life, health,
disability, auto, homecare, etc.)

 Insurance for enterprise: insure for properties and

liabilities and labour, that relate to businesses and
other activities, (Products: fire, theft, all risks policies,
etc.; group life, health care, medicare policies)

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 Life/health or Property/casualty

 Life/health: death, medical expenses, disability,

and old age

 Property/casualty: cover property exposures

(perils: fire, windstorm, theft)

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