Insurance Principles and Risk Management
Core principles
Insurance transfers the financial consequence of uncertain loss from an individual to a pool of similar exposures. Candidates must be able to define and apply insurable interest, indemnity, utmost good faith, subrogation, contribution, and proximate cause. Distinguish pure risk (loss or no loss) from speculative risk (loss, gain, or no change); only pure risk is insurable. Particular risk affects individuals, fundamental risk affects whole communities and is usually handled by government or broad pooling.
Risk management process
Know the cycle: identify exposures, measure and analyse frequency and severity, select techniques (avoidance, reduction, retention, transfer, sharing), implement, and monitor. Retention suits high-frequency/low-severity exposures; transfer suits low-frequency/high-severity. Explain hazards (physical, moral, morale) as conditions that increase loss probability or severity, distinct from perils, which are the actual causes of loss (fire, flood, theft).
Traps in questions
Examiners test the direction of the principle: indemnity restores the insured to pre-loss financial position, never better; subrogation belongs to the insurer after paying a claim and cannot exceed the amount paid; contribution applies between policies covering the same interest against the same peril, and prevents double recovery. Utmost good faith runs both ways. A moral hazard is deliberate dishonesty; morale hazard is carelessness or indifference.
Worked rule of thumb
A factory worth 2,000,000 is insured for 1,500,000 under an 80% coinsurance clause. Required insurance is 1,600,000, so the insured is underinsured. A 200,000 loss is paid at 1,500,000/1,600,000 × 200,000 = 187,500, less any deductible. Rule of thumb: if the limit is at or above the required percentage of value, pay the loss in full up to the limit.