Textbook Notes (368,427)
Canada (161,877)
Finance (362)
FIN 512 (27)
Chapter 1

Chapter 1 notes Notes from in text and in class

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Department
Finance
Course
FIN 512
Professor
Edward Blinder
Semester
Fall

Description
Chapter 1 Risk, risk management and insurance Principles 1. Law of large numbers – insurance companies can charge small premiums for large loss exposures 2. An insurance policy is a contract Risk/return Tradeoffs- The more risk one is willing to accept, the higher the possible return Risk management- Limiting the size of the bet so you are not wiped out if you take the wrong side Risk - An uncertainty about the occurrence of a loss Exogenous risk- Risk that we have no control of Endogenous risk- Risks that we CAN control Objective risk - risk that is determined by analysing past experiences Standard deviation - average difference of each loss from the average Subjective risk - the uncertainty is based on a person’s mental condition and the subjective probability is based on an individual’s personal estimate of a chance of loss - use inductive reasoning to come to conclusions about objective risks - use deductive reasoning where the probability is obvious Pure risk- where there is a chance of loss or NO gain – insurable Speculative risk -possibility of a loss and a gain – not insurable ( they involve voluntary acceptance) 3 categories of pure risk 1. property risk a. Direct loss – damage to or loss of property b. Indirect loss – e.g. need to rent another space 2. Personal Risk 3. Liability risk Pure risk for business 1. Financial risk 2. Credit risk 3. Operational risk 4. Strategic risk 5. Risk to reputation Dynamic risk – changes in the country and are insured by gov’t Static risk – for of pure risk, not connected to changes in economy Fundamental risk – affects a large number of people cal occurrences Particular Risks – affect only individuals and not a large group Social insurance – insurance required by governments Public assistance – paid out of tax revenues Private insurance – voluntary Peril – the cause of a loss Hazard – something that increases the likelihood of probable severity of a loss - Physical, moral, morale, legal The fundamental purpose of insurance is to prevent catastrophic losses Risk management is the process of identifying and assessing risks or loss exposures and then taking steps to eliminate or reduce them 6 steps in the risk management proc
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