Ideally Insurable Loss Exposures
- Large number of similar exposure units
- Losses that are accidental
- Losses that are definite and measurable
- Losses that are not catastrophic
- Losses that are economically feasible to insure
Large number of similar exposure units
The method adopted by insurance companies to quote premium is the Law of Large numbers, which clearly states that larger the number of similar exposure units larger shall be the accuracy of future loss predictions.
An ideally insurable loss exposure must be common enough that the insurer can pool a large number of homogeneous, or similar, exposure units. This characteristic is important because it enables the insurer to predict losses accurately and to determine appropriate premiums.
Losses that are accidental
In order to have an exposure insurable the losses need to be accidental from the standpoint of the Insured. If an exposure is certain to result in loss or damage then insurance companies are sure to pay the claim. In such a case, the core principle of insurance is defeated in total.
Losses That Are Definite and Measurable
To be insurable, a loss should have a definite time and place of occurrence and the amount of loss must be measurable in pecuniary terms.
If the time and location of a loss cannot be definitely determined and the amount of loss cannot be measured, writing an insurance policy that defines what claims to pay and how much to pay in the event of a loss is highly impossible. Also losses are impossible to predict if they cannot be measured.
Losses That Are Not Catastrophic
Under this topic, the crux is that Insurance business should have a reasonable Geographical Spread.
Effective pooling of exposure units assumes that the exposure units are independent.
This tendency of insurers not to insure catastrophic losses does not mean that they are not interested in covering catastrophic perils like flood, inundation, storm, typhoon, tempest, hurricane, tornado, etc.,
This lay emphasis that there should be a reasonable geographical spread.
Losses That Are Economically Feasible To Insure
Insurance companies seek to cover only loss exposures that are economically feasible to insure.
Because of this constraint, loss exposures involving small losses as well as those involving a high probability of loss are generally considered uninsurable.
Writing insurance to cover small losses does not make sense when the expense of providing the insurance probably exceeds the amount of potential losses.
It also does not make sense to write insurance to cover losses that are almost certain to occur.
FUNDAMENTALS OF INSURANCE