Insurance Risk: Definition, Types, and Characteristics
Posted At May 11th, 2018
The relation between insurance and risk is like two sides of the same coin; it’s a form of management that involves contractual shifting of a risk from one party (insured) to another (insurer). Insurance acts as a compensating mechanism of loss and risk transference. Hence, the risk transfer is one of the main functions of insurance. In a broader sense, risk is the possibility of loss, injury, or any other adverse in a present or future situation involving exposure to hazard/danger. The insurance/insurer perceives risk as an uncertainty based on the unpredictable nature of risk and human’s tendency to be exposed to risks.
Types of Risk
In insurance, risk can be classified into four main types, such as.
The characteristic of pure risk is that it holds out only in the possibility of loss or no-loss and it’s very unlikely that any measurable benefit will arise from a pure risk. It includes such incidents as fire, accident, bankruptcy and so forth.
Speculative risk is a risk that is undertaken because of a conscious choice and has the potential to result in uncertain degree of gain or loss. However, there are three possible outcomes in speculative risk which are loss, gain, and staying even with neither gain (profit) nor loss. Investing in the stock market is one of the examples of speculative risk.
Particular risk is the possibility of loss which can arise from a situation related with any specific individual events: such as unemployment, robbery or theft. E.g. any losses arising out of robbery or theft will directly affect an individual.
Compared to particular risk, the fundamental risk will have a huge impact as it affects a large group of people or companies and can be caused by natural or social events. Such as natural disasters, government policies, and so forth.
Insurable risk is a risk that conforms to the insurance policy specifications in such a way that the criterion for insurance is fulfilled. The characteristics of insurable risk are as follows:
- The consequences (loss) must be assessable, definite or can be measured in terms of time or money/financially measurable.
- The prime need for a risk to be insurable is that there must be a sufficiently large number of homogeneous/similar exposures units (Law of the Large Numbers).
- The risk must be accidental and unintentional: the potential loss of the risk should be unexpected, unforeseeable and not intentionally caused by the insured.
- The insured must have an interest in the person or object being insured. That is, they must stand to suffer loss if a loss does occur.
- The insured object should be lawful and not against the public policy or public interest
- The premium should be economically feasible, and the average severity can be readily determined to establish the required premium.
There are risks related to personal/individual activity and business activity, which are:
Personal risk - is the exposure to financial loss or suffering adverse health effects resulting from sickness, accident, death
Business risk - are losses due to events that may occur during the normal course of business such as: bankruptcy, loss, or damage caused by various events: such as fire, natural disaster, business interruption, lawsuits, and so forth.
After learning about risks, we shouldn’t be afraid or worried because the best and easiest way to manage those risks is to get covered by insurance. Perhaps, it’s time for us to make insurance a priority in our lives.
Let's get Insured.
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