Monday, January 18, 2010

Concept Of Risk

In the business of Insurance, its imperative to understannd risk in order to be able to attach financial values to it. Apprehending risk is the first step towards quantifying the hypothesis of Insurance.

Risk may be defined as the possibility of adverse consequences flowing from any occurrence that could be Natural or Otherwise. It arises out of uncertainty. Insurance is a process of transferring risk from individual to the insurer, who fixes a 'Premium' according to total likely loss in a certain period.

Insurance, hence may be defined as a co-operative device to spread the loss caused by a particular risk over a number of persons who are exposed to the same risk and who agree to insure themselves against that risk. Many contribute a certain sum of money called Premium. Few who suffer losses are compensated by the insurer.

Lets try to understand the same with the help of an example. Here we take the example of marine business.

Lets us assume that there is a loss of ships on voyage on a particular route and the same may be quantified as two ships per year, valued at two crores of Rupees. Total ships on voyage is 1,000. The premium for each ship may be fixed at 2,00,00,000 / 1000 = 20,000 + some money towards administrative expenses and profit, say Rs.2000/ making it a total of Rs.22,000/- towards premium.

Its aparent from the above example that Insured person gets protectection from the heavy loss likely to be caused by an uncertain event in exchange for paying a comparatively much smaller sum of money as premium. Insurance provide financial compensation and security for the effects of misfortune. Lets be clear where there is uncertainty, there is a risk and where there is no risk, there is a certainty.

Insurance has touched all the domains of life where there is any amount of risk involved. Just imagine, singers can now get their voice insured and dancers can get their legs insured so that when their singing or dancing skill declines due to an unforeseen risk, the insurance company pays them the policy amount. Therefore, conceptualisation of risk is of paramount importance in the business of Insurance.

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