1. Introduction to Risk Management
MYPF 25
8/8/2018
Introduction to Risk Management
25.1 Understanding Risk
25.2 Managing Risk
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2. Lesson 25.1 Understanding Risk
GOALS
Explain risk and the different types of risk.
Explain the concept of insurance and how risks are spread.
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3. Types of Risk Pure risk Speculative risk Economic risk Insurable risk
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4. Pure Risk Pure risk is a chance of loss with no chance for gain.
Pure risks are random (can happen to anyone) and result in loss (not gain).
Examples of pure risk include the following:
Accidents resulting in physical injury and damage to property
Illnesses that people get throughout life, as a part of aging
Acts of nature, resulting in damage to persons and property
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5. Speculative Risk A speculative risk may result in either gain or loss.
Because speculative risks are not “accidental” or random, and may result in either gain or loss, you cannot protect yourself from losses in a traditional manner.
While hedging (making an investment to help offset against loss) is a technique used to help reduce losses from such risky acts, it does not reduce the risk itself.
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6. Economic Risk
Economic risk may result in gain or loss because of changing economic conditions.
For example, when the business cycle is in a period of recovery or growth, most people and businesses are realizing gains in their financial position.
However, the economy can slow down.
During this time, people lose jobs and are unable to buy goods and services.
As a result, many businesses find themselves unable to meet their debts.
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7. Insurable Risk
You can reduce negative consequences of a pure risk by purchasing insurance.
Insurance is a method for spreading individual risk among a large group of people to make losses more affordable for all.
An insurable risk is a pure risk that is faced by a large number of people and for which the amount of the loss can be predicted.
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8. Insurable Risk
(continued)
Insurance companies can make these predictions by examining the amount of loss incurred from past events, such as flooding.
To purchase insurance, you must have an insurable interest to protect.
An insurable interest is any financial interest in life or property such that, if the life or property were lost or harmed, the insured would suffer financially.
There are three major insurable risks: personal, property, and liability.
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9. Personal Risk
A personal risk is the chance of loss involving your income and standard of living.
You can protect yourself from personal risks by buying life, health, and disability insurance.
In addition, insurance against personal risks protects others who are depending on your income to provide food, clothing, shelter, and the comforts of life.
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10. Property Risk
The chance of loss or harm to personal or real property is called property risk.
For example, your home, car, or other possessions could be damaged or destroyed by fire, theft, wind, rain, accident, and other hazards.
To protect against such risks, you can buy property insurance.
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11. Liability Risk
A liability risk is the chance of loss that may occur when your errors or actions result in injuries to others or damages to their property.
For example, you could accidentally cause injury or damage to others or their property by your conduct while driving a car.
Or a person could fall because of your home’s crumbling front steps and break an arm.
Liability insurance will protect you when others sue you for injuring them or damaging their property.
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12. Spreading the Risk
An insurance company, or insurer, is a business that agrees to pay the cost of potential future losses in exchange for regular fee payments.
When people buy insurance, they join a risk-sharing group by purchasing a written insurance contract (a policy).
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13. Spreading the Risk
(continued)
Under the policy, the insurer agrees to assume an identified risk for a fee, called the premium, usually paid at regular intervals by the owner of the policy (the policyholder).
The insurer collects insurance premiums from policyholders under the assumption that only a few policyholders will have financial losses at any given time.
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14. Indemnification
Insurance is not meant to enrich—only to compensate for actual losses incurred.
This principle is called indemnification.
Indemnification means putting the policyholder back in the same financial condition he or she was in before the loss occurred.
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15. Insurance Terminology
Actuarial table
Actuary
Beneficiary
Benefits
Cash value
Claim
Coverage
Deductible
Exclusions
Face amount
Grace period
Hazard
Insurance agent
Insured
Insurer
Loss
Peril
Probability
Proof of loss
Standard policy
Unearned premium
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16. Discuss the risk-management process.
Lesson 25.2 Managing Risk
GOALS
Discuss the risk-management process.
Explain how to create a risk-management plan.
Discuss ways to reduce the costs of insurance.
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17. Risk Management Is a Process
While you cannot eliminate risk, you can manage it so that a loss does not become financially devastating.
Risk management is an organized strategy for controlling financial loss from pure risks and insurable risks.
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18. Risk Assessment
Risk management begins with a systematic study of the risks that you face.
It begins with risk assessment, or understanding the types of risk you will face and their potential consequences.
Risk assessment is a three-step process:
Step 1: Identify risks of loss
Step 2: Assess seriousness of risks
Step 3: Handle risks
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19. Techniques for Handling Risks
Risk shifting
Risk avoidance
Risk reduction
Risk assumption
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20. Risk Shifting
Risk shifting, also called risk transfer, occurs when you buy insurance to cover financial losses caused by damaging events, such as fire, theft, injury, or death.
By making premium payments, you shift the risk of major financial loss to the insurance company.
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21. Risk Avoidance
Risk avoidance lowers the chance for loss by not doing the activity that could result in the loss.
Examples:
Instead of having a party at your house and risking damage, you could reserve a section of a restaurant.
Instead of participating in a dangerous sport, you could go camping.
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22. Risk Reduction
Risk reduction lowers the chance of loss by taking measures to lessen the frequency or severity of losses that may occur.
For example, you may put studded snow tires on your car, install fire alarms or sprinklers in your home, or use seat belts.
All these steps would lessen the financial risk of potential losses.
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23. Risk Assumption
Risk assumption is the process of accepting the consequences of risk.
To help cushion your financial burden, you could establish a monetary fund to cover the cost of a loss.
People who self-insure plan to absorb the costs of some risks themselves.
This strategy can reduce the cost of insurance.
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24. The Risk-Management Plan
List identified risks.
List assessment of risks’ financial impact.
List techniques to manage each risk.
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25. Reducing Insurance Costs
Increase deductibles.
A deductible is the specified amount of a loss that you must pay.
Generally, the higher the deductible, the lower the insurance premium.
Purchase group insurance.
The premiums for group plans are usually considerably lower than for an individual plan.
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26. Reducing Insurance Costs
(continued)
Consider payment options.
Monthly payments usually contain an extra charge, while semiannual payments do not.
Having premiums automatically deducted from your checking account or paying electronically may reduce your costs.
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27. Reducing Insurance Costs
(continued)
Look for discount opportunities.
Many insurance companies offer discounts for special conditions.
Comparison shop.
Get quotes from several insurers.
Be sure to give each one the same information so you can compare exact coverage and costs.
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28. assignment p
p ,13
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