Risk pool

Last updated

A risk pool is one of the forms of risk management mostly practiced by insurance companies. Under this system, insurance companies come together to form a pool, which can provide protection to insurance companies against catastrophic risks such as floods or earthquakes. The term is also used to describe the pooling of similar risks that underlies the concept of insurance. While risk pooling is necessary for insurance to work, not all risks can be effectively pooled. In particular, it is difficult to pool dissimilar risks in a voluntary insurance bracket, unless there is a subsidy available to encourage participation. [1]

Insurance equitable transfer of the risk of a loss, from one entity to another in exchange for payment

Insurance is a means of protection from financial loss. It is a form of risk management, primarily used to hedge against the risk of a contingent or uncertain loss.

Contents

Risk pooling is an important concept in supply chain management. [2] Risk pooling suggests that demand variability is reduced if one aggregates demand across locations because as demand is aggregated across different locations, it becomes more likely that high demand from one customer will be offset by low demand from another. This reduction in variability allows a decrease in safety stock and therefore reduces average Inventory.

Safety stock is a term used by logisticians to describe a level of extra stock that is maintained to mitigate risk of stockouts caused by uncertainties in supply and demand. Adequate safety stock levels permit business operations to proceed according to their plans. Safety stock is held when uncertainty exists in demand, supply, or manufacturing yield, and serves as an insurance against stockouts.

Inventory goods held for resale

Inventory or stock is the goods and materials that a business holds for the ultimate goal of resale.

For example: in the centralized distribution system, the warehouse serves all customers, which leads to a reduction in variability measured by either the standard deviation or the coefficient of variation.

Warehouse commercial storage building for goods in transit

A warehouse is a building for storing goods. Warehouses are used by manufacturers, importers, exporters, wholesalers, transport businesses, customs, etc. They are usually large plain buildings in industrial parks on the outskirts of cities, towns or villages.

Standard deviation dispersion of the values of a random variable around its expected value

In statistics, the standard deviation is a measure that is used to quantify the amount of variation or dispersion of a set of data values. A low standard deviation indicates that the data points tend to be close to the mean of the set, while a high standard deviation indicates that the data points are spread out over a wider range of values.

In probability theory and statistics, the coefficient of variation (CV), also known as relative standard deviation (RSD), is a standardized measure of dispersion of a probability distribution or frequency distribution. It is often expressed as a percentage, and is defined as the ratio of the standard deviation to the mean . The CV or RSD is widely used in analytical chemistry to express the precision and repeatability of an assay. It is also commonly used in fields such as engineering or physics when doing quality assurance studies and ANOVA gauge R&R. In addition, CV is utilized by economists and investors in economic models and in determining the volatility of a security.

The three critical points to risk pooling are:

  1. Centralized inventory saves safety stock and average inventory in the system.
  2. When demands from markets are negatively correlated, the higher the coefficient of variation, the greater the benefit obtained from centralized systems; that is, the greater the benefit from risk pooling.
  3. The benefits from risk pooling depend directly on the relative market behavior. This is explained as follows: If we compare two markets and when demand from both markets are more or less than the average demand, we say that the demands from the market are positively correlated. Thus the benefits derived from risk pooling decreases as the correlation between demands from the two markets becomes more positive.

In government

Intergovernmental risk pools (IRPs) operate under the same general principle, except that they are made up of public entities, such as government agencies, school districts, county governments and municipalities. Thus, IRPs provide alternative risk financing and transfer mechanisms to their members through self-funding, where particular types of risk are underwritten with contributions (premiums), with losses and expenses shared in agreed ratios. In other words, Intergovernmental Risk Pools are a cooperative group of governmental entities joining together through written agreement to finance an exposure, liability or risk. Although they are not considered insurance, these pools extend nearly identical coverage through similar underwriting and claim activities, as well as provide other risk management services. Pools have many advantages over insurers for their members. Pools tend to protect their members from cyclic insurance rates, offer loss prevention services, offer savings (as they are non-profit organizations and do not lose funds through broker fees), and have focus and expertise in governmental entities often not found in insurers. [3]

Intergovernmental risk pools may include, but are not limited to, authorities, joint power authorities, associations, agencies, trusts, risk management funds, and other risk pools.

Voluntary association group of people with shared interests or aims

A voluntary group or union is a group of individuals who enter into an agreement, usually as volunteers, to form a body to accomplish a purpose. Common examples include trade associations, trade unions, learned societies, professional associations, and environmental groups.

A government or state agency, sometimes an appointed commission, is a permanent or semi-permanent organization in the machinery of government that is responsible for the oversight and administration of specific functions, such as an intelligence agency. There is a notable variety of agency types. Although usage differs, a government agency is normally distinct both from a department or ministry, and other types of public body established by government. The functions of an agency are normally executive in character, since different types of organizations are most often constituted in an advisory role—this distinction is often blurred in practice however.

A trust company is a corporation, especially a commercial bank, organized to perform the fiduciary of trusts and agencies. It is normally owned by one of three types of structures: an independent partnership, a bank, or a law firm, each of which specializes in being a trustee of various kinds of trusts and in managing estates. Trust companies are not required to exercise all of the powers that they are granted. Further, the fact that a trust company in one jurisdiction does not perform all of the trust company duties in another jurisdiction is irrelevant and does not have any bearing on whether either company is truly a "trust company". Therefore, it is safe to say that the term "trust company" must not be narrowly construed.

See also

Related Research Articles

Terrorism insurance is insurance purchased by property owners to cover their potential losses and liabilities that might occur due to terrorist activities.

Reinsurance is insurance that is purchased by an insurance company. In the classic case, reinsurance allows insurance companies to remain solvent after major claims events, such as major disasters like hurricanes and wildfires. In addition to its basic role in risk management, reinsurance is sometimes used for tax mitigation and other reasons. The company that purchases the reinsurance policy is called a "ceding company" or "cedent" or "cedant" under most arrangements. The company issuing the reinsurance policy is referred simply as the "reinsurer".

Self-insurance describes a situation in which a person does not take out any third party insurance. The essence of the concept is that a business that is liable for some risk, such as health costs, chooses to "carry the risk" itself and not take out insurance through an insurance company.

Terrorism Risk Insurance Act

The Terrorism Risk Insurance Act (TRIA) is a United States federal law signed into law by President George W. Bush on November 26, 2002. The Act created a federal "backstop" for insurance claims related to acts of terrorism. The Act "provides for a transparent system of shared public and private compensation for insured losses resulting from acts of terrorism." The Act was originally set to expire December 31, 2005, was extended for two years in December 2005, and was extended again on December 26, 2007. The Terrorism Risk Insurance Program Reauthorization Act expired on December 31, 2014.

Pool Re

Pool Reinsurance Company Limited, also known as Pool Re, was set up in 1993 by the insurance industry in cooperation with the UK Government in the wake of the IRA bombing of the Baltic Exchange in 1992.

Uberrima fides is a Latin phrase meaning "utmost good faith". It is the name of a legal doctrine which governs insurance contracts. This means that all parties to an insurance contract must deal in good faith, making a full declaration of all material facts in the insurance proposal. This contrasts with the legal doctrine caveat emptor.

The following outline is provided as an overview of and topical guide to actuarial science:

Catastrophe bond form of reinsurance

Catastrophe bonds are risk-linked securities that transfer a specified set of risks from a sponsor to investors. They were created and first used in the mid-1990s in the aftermath of Hurricane Andrew and the Northridge earthquake.

Euler Hermes bank

Euler Hermes is a credit insurance company that offers a wide range of bonding, guarantees and collections services for the management of business-to-business trade receivables.

Reinsurance sidecars, conventionally referred to as "sidecars", are financial structures that are created to allow investors to take on the risk and return of a group of insurance policies written by an insurer or reinsurer and earn the risk and return that arises from that business. A re/insurer will only pay ("cede") the premiums associated with a book of business to such an entity if the investors place sufficient funds in the vehicle to ensure that it can meet claims if they arise. Typically, the liability of investors is limited to these funds. These structures have become quite prominent in the aftermath of Hurricane Katrina as a vehicle for re/insurers to add risk-bearing capacity, and for investors to participate in the potential profits resulting from sharp price increases in re/insurance over the four quarters following Katrina. An earlier and smaller generation of sidecars were created after 9/11 for the same purpose.

Alternative risk transfer is the use of techniques other than traditional insurance and reinsurance to provide risk-bearing entities with coverage or protection. The field of alternative risk transfer grew out of a series of insurance capacity crises in the 1970s through 1990s that drove purchasers of traditional coverage to seek more robust ways to buy protection.

Insurance Europe is the European insurance and reinsurance federation. Through its 35 member bodies — the national insurance associations — it represents all types of insurance and reinsurance undertakings, e.g. pan-European companies, monoliners, mutuals and SMEs. Insurance Europe, which is based in Brussels, Belgium, represents undertakings that account for around 95% of total European premium income. Insurance makes a major contribution to Europe's economic growth and development. European insurers generate premium income of more than €1,200bn, employ almost one million people and invest almost €9,800bn in the economy.

Insurance law is the practice of law surrounding insurance, including insurance policies and claims. It can be broadly broken into three categories - regulation of the business of insurance; regulation of the content of insurance policies, especially with regard to consumer policies; and regulation of claim handling.

An equalization pool is a fund created to level out differences in financial risk, often across long periods of time, in a process known as risk equalization. Examples include mandatory health insurance and grower co-operatives.

Health insurance in the United States is any program that helps pay for medical expenses, whether through privately purchased insurance, social insurance, or a social welfare program funded by the government. Synonyms for this usage include "health coverage", "health care coverage", and "health benefits". In a more technical sense, the term "health insurance "is used to describe any form of insurance providing protection against the costs of medical services. This usage includes private insurance and social insurance programs such as Medicare, which pools resources and spreads the financial risk associated with major medical expenses across the entire population to protect everyone, as well as social welfare programs like Medicaid and the Children's Health Insurance Program, which both provide assistance to people who cannot afford health coverage.

Insurability can mean either whether a particular type of loss (risk) can be insured in theory, or whether a particular client is insurable for by a particular company because of particular circumstance and the quality assigned by an insurance provider pertaining to the risk that a given client would have.

Capitation is a payment arrangement for health care service providers such as physicians, physician assistants or nurse practitioners. It pays a physician or group of physicians a set amount for each enrolled person assigned to them, per period of time, whether or not that person seeks care. These providers generally are contracted with a type of health maintenance organization (HMO) known as an independent practice association (IPA), which enlists the providers to care for HMO-enrolled patients. The amount of remuneration is based on the average expected health care utilization of that patient, with greater payment for patients with significant medical history.

The Empowering Patients First Act is legislation sponsored by Rep. Tom Price, first introduced as H.R. 3400 in the 111th Congress. The bill was initially intended to be a Republican alternative to the America's Affordable Health Choices Act of 2009, but has since been positioned as a potential replacement to the Patient Protection and Affordable Care Act (PPACA). The bill was introduced in the 112th Congress as H.R. 3000, and in the 113th Congress as H.R. 2300. As of October 2014, the bill has 58 cosponsors. An identical version of the bill has been introduced in the Senate by Senator John McCain as S. 1851.

Yehuda Kahane is the 2011 recipient of the highly prestigious John S. Bickley Founder's Award for his pioneering and lasting contribution to the theory, practice, and education of insurance and risk management. Kahane is active in both the academic and business areas.

References

  1. "Wading Through Medical Insurance Pools: A Primer," American Academy of Actuaries September 2006 http://www.actuary.org/pdf/health/pools_sep06.pdf
  2. D.S.Levi,P.Kaminsky,E. Simchi-Levi."Chapter 3: Inventory Management and Risk Pooling"; "Designing & Managing the Supply Chain-Second Edition"(p-66)
  3. Marcos Antonio Mendoza, "Reinsurance as Governance: Governmental Risk Management Pools as a Case Study in the Governance Role Played by Reinsurance Institutions", 21 Conn. Ins. L.J. 53, 55-63 (2014) http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2573253