Chapter 2 Managing Risk What is Risk Risk

Chapter 2 Managing Risk

What is Risk? • Risk exists whenever there is an uncertainly about an outcome • If you knew for certain you would become a millionaire by purchasing the stock of a particular company, there would be no risk involved since you would know in advance what was to occur

Managing Risk In order to suffer a loss, 3 things are essential: – An item can suffer a loss (such as a building, personal wealth or a person’s health) – A cause of the loss (fire, a lawsuit or a disease) – Financial impact of the loss (decline in the building’s value, cost of hiring attorneys or medical expenses)

Risk and Loss • Three Possible Outcomes – Gain – Loss – Neutral

Pure Risk vs. Speculative Risk • Pure Risk – when there are only two possible outcomes to risk, loss or no loss • Speculative Risk – when there is a third possible outcome, gain

Identifying Loss Exposures • Property Loss Exposures – Real Property: House, building and anything attached to the property (like a car-port, built-in pool, etc. ) – Personal Property: Automobile, clothing, furniture, appliances, televisions, etc.

Identifying Loss Exposures • Liability Loss Exposures examples – Hitting another persons car with your car – A fire in your home causing damage to a neighbor’s home

Property Loss vs. Liability Loss • The main difference between property and liability loss exposures, is that the amount of a potential loss to property can easily be estimated prior to the loss • The amount of a claim for liability is not determined until after something has happened

Identifying Loss Exposures • Human Loss Exposures – loss of income/earnings because of: – Ill Health – Disability – Death

Causes of Loss • Just having an item of property that is exposed to loss does not mean you will actually suffer a loss • There must also be a cause of the loss, or peril: – Natural – Human – Economic

Activity • What are some natural causes of loss caused by nature? • What are some human causes of loss caused by people? • What are some economic causes of loss caused by changes in the economy?

Cost of Loss In addition to the direct loss, there could be other costs that are not as obvious, like costs to stay at a hotel while your house is being repaired.

How Can you Manage Risk? • Avoidance – eliminate the loss exposure or never acquire it in the first place • Loss Control – reduce the number of losses or the cost of losses that occur (ex. burglar alarms, seat belts, airbags) • Transfer to Others – someone else's responsibility via a contract or agreement (ex. rental car contract) • Retention – paying some or all of the losses that occur out of your own personal income (ex. paying for a crack in your windshield rather than claiming it on insurance) • Insurance – transfer of loss to an insurance company

Questions?