1Which statement(s) describe the relationship between risk and insurance?
£ A. Insurance can help protect a policyholder from losses that can come from risk
£ B. Risk levels can impact a person’s insurability
£ C. Only people who take risks need insurance
£ D. Both A and B
£ E. Both B and C
2Which of the following factors do insurance companies use to determine the potential risk of an applicant?
£ A. Age, gender, and health
£ B. Gender, health, and income
£ C. Age, health, and income
£ D. Age, health, and geographic location
3Which insurance professional calculates risk based on loss percentage and determines insurance rates and premiums?
£ A. Accountant
£ B. Actuary
£ C. Insurance agent
£ D. Underwriter
4The most effective way for insurers to employ risk pooling is to:
£ A. Keep the risk pool as small as possible
£ B. Separate the riskiest people into their own risk pool
£ C. Group as many people as possible into the same risk pool
£ D. Keep every risk pool the same size
5In general, an insurance company will charge more for “high-risk” cases than
£ A. True
£ B. False
6Who would you expect to pay more for a new term life insurance policy?
£ A. A 25-year-old who smokes
£ B. A healthy 25-year-old who earns a lot of money
£ C. A 25-year-old who owns a house
£ D. They would all pay the same amount
7Twins, age 18, apply for car insurance. The insurance company could charge them different rates based on gender.
£ A. True
£ B. False
8A 45-year-old warehouse worker injures his back cleaning his gutters and can’t work for eight weeks. Which of his insurance policies will help him make ends meet by paying him a percentage of his income while he is out of work recovering?
£ A. Life insurance
£ B. Health insurance
£ C. Disability insurance
£ D. Homeowners insurance
9A couple with a young baby purchases a life insurance policy. What is the payment that they will make monthly or annually to the insurance company for coverage called?
£ A. Premium
£ B. Co-payment
£ C. Principle
£ D. Dividend
10Why might the couple be investing in life insurance?
£ A. To have income to travel and enjoy life when they retire
£ B. To earn interest in the short term
£ C. To save on taxes
£ D. To help cover their family’s financial needs and obligations if one of them dies
The 411 on Insurance
You want to protect yourself, your loved ones and the things you own.
How do you do that?
You (the insured) buy an insurance policy from an insurer to protect against things that can threaten your financial health or your family’s financial future. These things can range from damage to your home or car, to injury, illness or even premature death.
You pay a fee (called a premium) monthly, quarterly or annually. If something happens—you become ill or are involved in an auto accident for example—your insurance company will cover a portion or sometimes even all of the expenses you incur as a result of what happened to you.
How can an insurance company afford to pay for your financial loss?
Insurance is based on the principle of shared risk, or risk pooling. The money from your premium is put together with the premiums of many other people. That large pool of money is used to pay for losses suffered by individual members of the group.
How do insurance companies figure out how much to charge you or someone else?
Insurance companies have to know how to measure the risks. They have to estimate how many accidents, illnesses, or deaths there will be within a certain group of policyholders. This is where math techniques, such as probability and statistics, come in handy.
Insurers use these mathematical disciplines to determine risk and set rates.
The chance of something happening or not happening within a certain number of occurrences. For instance, your odds of becoming a pro athlete are around 22,000 to 1, while your chances of having your identity stolen are 200 to 1.
Law of large numbers also called the law of averages:
The larger the group or number of events analyzed, the more accurately events can be predicted mathematically.
By collecting data on large numbers of people, insurers are able to predict with a good degree of precision the probability of loss for particular groups—for example, teenage boys, middle-aged adults, or senior citizens.
So, if you have a car and auto insurance, you probably realize that rates for teens are higher (sometimes a lot higher) than those of other demographic groups. That’s because, statistically speaking, you’re more likely to have an accident than someone with more driving experience. Maybe that sounds unfair. But insurers don’t do that because they think teens may have more accidents— they know it. It’s the same thing with smokers. Smokers pay more for life and disability insurance because insurers know they have higher rates of cancer and heart disease than non-smokers.
Insurers know this because they have been collecting data on millions and millions of people for many decades. The more information they collect and analyze, the clearer the picture becomes.
Math Principles in Action:
Flip a coin six times. It should come up heads half the time and tails half the time, but it doesn’t always. Do this activity with five other people. Have each flip a coin six times, and record the number of heads and tails. Now, add all your heads and all your tails and compare. The results should move closer to 50-50 as more people participate, demonstrating how the law of large numbers works.
you apply for an insurance policy, the insurance agent will typically ask a series of questions to make sure you are put into the correct group, or risk classification, and charged a fair premium.
Here are some of the insurance professionals who are involved in helping you protect your life, health and property.
Has advanced math training (probability and statistics). He or she calculates the risks based on loss percentages and determines insurance rates and premiums.
Employee of an insurance company who evaluates risk and assigns premium amounts. Age, gender and health are key factors they use to determine risk.
A representative of an insurance company who sells insurance contracts (policies) and provides customer service. He or she must be licensed by the state in which a policy is sold.
What’s Risk Got To Do With It?
What is risk?
A standard definition would be chance of loss: of life, property, health, comfort, success. What is your definition of risk?
What types of risk do we face?
Many people think of risk only as involving things that are considered dangerous. In reality, risk is a part of everyday life. It’s just that some risks are greater or more obvious than others, and people tend to notice those and associate them with the word “risk.” For example, which of these two activities makes you think of risk: walking down stairs or motorcycle racing?
Motorcycle racing is generally considered higher risk than walking down stairs. But what if there is ice on the stairs, if your shoes are untied, or if the stairs are in bad shape?
Some general categories of risk that we face might be:
• Risk that comes with action: skateboarding, driving, eating junk food all the time
• Risk that comes with lack of action: not wearing a seatbelt, failing to study for a test
• Risks you know about but don’t think will happen to you: getting struck by a car
• Everyday risks worth taking: trying out for the soccer or basketball teams; introducing yourself to a person you would like to know; public speaking
What other categories of risk would you add to this list? Give some examples.
How do we protect ourselves from risk?
It is impossible to eliminate all risk from our lives. But there are things we can do to protect ourselves and reduce the chance of bad things happening:
• Avoid dangerous situations and activities.
• Use protective devices and preventive measures.
• Arm yourself with knowledge. Have the facts and skills that enable you to make good decisions.
• Have insurance. Protect yourself from financial loss due to illness, injury, death, property damage and loss.
The bottom line is you want to find ways to reduce the negative impact of risk in your life. List risks you might face daily and ways you protect yourself.
The risk (and what can happen) Type of risk (from list) Ways to protect yourself
Risk Pooling in Ancient Rome
Early Insurance in Practice
Insurance is nothing new. In Ancient Rome, they understood the concept of shared risk when soldiers in the Roman Legion went to war. In those days, soldiers pledged to take care of the families of their fellow warriors who died in battle.
If each soldier put in a little bit of money, there would be enough to help a family that suffered a loss. These soldiers were practicing risk pooling.
See for yourself how it works:
You are Flavius Romulus, statistician to the Roman Legion. One of the army centurions has come to you because his troops are expected to contribute to a fund that would pay each soldier’s burial expenses and help support the family for two years following the soldier’s death in battle. It is your job to determine how much each soldier must contribute to help cover anticipated troop losses.
Here is the information the centurion has given to you:
• He commands 10 units, made up of 10 men each.
• The yearly salary of his men is 225 denarii (silver coins).
• The fund only provides support for the families of soldiers who were killed in battle or who died of their battle wounds.
• Based on army records for the last 10 years, the legion will lose about 5% of its men each year; 2% from battle wounds and 3% from illnesses unrelated to battle.
• These records reflect that this legion has been located far from front lines of battle for several years. An average burial for a soldier costs 50 denarii.
Using this information, answer the questions below.
How many men does the group lose per year in this scenario? . . . ____________
How many of those men are covered under the requirement? . . . ____________
In any given year, how much money do the men have to place in the fund to cover the burials and
two years of lost income for their fellow warriors who will die in battle? . . . ____________
How much does each soldier have to put into the fund each year? . . . ____________
What do you think would happen to these numbers if the Legion was called to the front lines? What does this do to the risk pool?
What kind of insurance were the soldiers providing for each other? ____________________________________________________
What’s the Risk?
Part A: Rate the Risk
Risk is part of life. It also plays a key role in insurance.
Underwriters who work at insurance companies study policy applicants to assess their potential risk factors.
The underwriter then compares an applicant’s risk factors with others in a group to determine whether the applicant is a high risk or a low risk and to determine how much the applicant should be charged for insurance.
Underwriters use three primary factors to classify risk:
age, gender, and health. Other aspects of the applicant’s life are also examined and factored into his or her risk level.
In the chart below, assess the potential risks for each person listed. Next rate each person’s risk level using a scale of 1 to 5, with 1 being “low risk” and 5 being “high risk.” Which people would you expect to pay the highest insurance premiums?
Some people purchase insurance as a form of risk management. Why do you think some people purchase insurance and others do not?
Profession Age Gender Health Hobbies Risks Risk Rating
1=low; 5=high Salesclerk 52 M overweightasthma;
traveling the world;
Retired teacher 64 F smokes; recent
quilting Baseball player
(pitcher) 21 M
frequent work- related injuries
participating in triathlons;
dirt biking Computer
programmer 27 F
Lawyer 38 F
walks 2 miles per day; eats