Regional Airline (RA) spends millions of dollars each year on jet fuel. The company also has significant liability exposures. RA can retain a large portion of its liability exposure if fuel costs are low. The company can pay high fuel costs if retained liability losses are low. RA cannot, however, absorb both high fuel costs and high retained liability claims. RA's insurer designed an insurance program where the insurer pays only if both contingencies (high fuel costs and high retained liability claims) occur. The contract the insurer designed is called a(n)

1. A) double indemnity rider.
2. B) double trigger option.
3. C) multiple protection policy.
4. D) other insurance provision.

Answer: B

Which statement is (are) true with respect to enterprise risk management programs?

1. They address traditional property, liability, and personnel loss exposures.
2. They do not address financial risks.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: A

A comprehensive risk management program that addresses an organization's pure risks, speculative risks, strategic risks, and operational risks is called a(n)

1. A) risk management information system.
2. B) financial risk management plan.
3. C) speculative risk management plan.
4. D) enterprise risk management plan.

Answer: D

The property and liability insurance industry is characterized by a repetitive pattern of loose underwriting standards with low premiums followed by tight underwriting standards with high premiums. This repetitive pattern is called the

1. A) underwriting by exception method.
2. B) business cycle.
3. C) underwriting cycle.
4. D) account underwriting method.

Answer: C

Which statement is (are) true regarding property and liability insurance market conditions?

1. Premiums are high when the insurance market is "hard."
2. Underwriting standards are tight when the insurance market is "soft."
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: A

Which of the following statements is true regarding insurance market conditions and underwriting results?

1. A) A combined ratio greater than one (or 100 percent) indicates profitable underwriting.
2. B) In a "soft" insurance market, more retention is used than in a "hard" insurance market.
3. C) Insurance rates are high and underwriting standards are tight when the insurance market is "hard."
4. D) Property and liability insurance premiums and underwriting standards do not fluctuate over time.

Answer: C

The relative level of surplus in the insurance industry is called the industry's

1. A) capacity.
2. B) liabilities.
3. C) reserves.
4. D) admitted assets.

Answer: A

Which of the following statements is (are) true regarding investment returns and the underwriting cycle?

1. Investment returns have no impact upon the underwriting cycle.
2. Investment returns can lengthen the duration of a soft market by offsetting underwriting losses.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: B

A large property and liability insurance company merged with a bank and then acquired a stock brokerage company. This type of merger and acquisition activity is categorized as

1. A) insurance company consolidation.
2. B) cross-industry consolidation.
3. C) financial risk management.
4. D) insurance brokerage consolidation.

Answer: B

A company has a fleet of 200 vehicles. On average, 50 vehicles per year experience property damage. What is the probability that any vehicle will be damaged in any given year?

1. A) 10 percent
2. B) 20 percent
3. C) 25 percent
4. D) 50 percent

Answer: C

RST Company has production facilities in Salt Lake City and Cleveland. The probability that in any given year a fire will damage the production facility in Salt Lake City is 5 percent. The probability that in any given year a fire will damage the Cleveland production facility is 4 percent. What is the probability that BOTH production facilities will be damaged by fire in any given year?

1. A) 0.20 percent
2. B) 2.00 percent
3. C) 4.50 percent
4. D) 9.00 percent

Answer: A

RST Company has production facilities in Salt Lake City and Cleveland. The probability that in any given year a fire will damage the production facility in Salt Lake City is 5 percent. The probability that in any given year a fire will damage the Cleveland production facility is 4 percent. What is the probability that AT LEAST ONE of the production facilities will be damaged by fire in any given year?

1. A) 0.20 percent
2. B) 2.00 percent
3. C) 8.80 percent
4. D) 9.00 percent

Answer: C

Some events cannot occur together because the occurrence of one event makes the occurrence of the second event impossible. Such events are called

1. A) dependent events.
2. B) independent events.
3. C) conditional events.
4. D) mutually exclusive events.

Answer: D

Two buildings are located close together at a production facility. The probability that either of these buildings will experience a fire loss is 4 percent. However, if one building has a fire, the probability that the second building will have a fire is 60 percent. What is the probability that both buildings will have a fire?

1. A) 1.6 percent
2. B) 2.4 percent
3. C) 8.0 percent
4. D) 64.0 percent

Answer: B

Which of the following statements is (are) true with regard to probability analysis?

1. If two events are independent, the occurrence of one event does not affect the occurrence of the second event.
2. If two events are dependent, the occurrence of one event affects the occurrence of the second event.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: C

Jane is risk manager of ABC Manufacturing Company. She is trying to decide whether to self-insure her company's workers compensation exposure or to purchase insurance. Jane would like to use regression analysis to predict the number of workers compensation claims that will occur next year. The number of claims will be the dependent variable in the regression. All of the following would be reasonable independent variables to use EXCEPT

1. A) number of employees.
2. B) number of hours worked.
3. C) total assets.
4. D) payroll.

Answer: C

A method of characterizing the relationship between two or more variables and then using the characterization to make a prediction is called

1. A) loss analysis.
2. B) time value of money analysis.
3. C) regression analysis.
4. D) capital budgeting analysis.

Answer: C

A table showing losses that could occur and the corresponding chance that each loss could occur is called a(n)

1. A) underwriting cycle.
2. B) capital budget.
3. C) loss distribution.
4. D) risk map.

Answer: C

Which of the following statements is (are) true with respect to the time value of money?

1. Money received today is worth more than the same amount of money received in the future.
2. The present value of a future amount is greater than the future amount.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: A

Calculating the present value of a future amount is called

1. A) interpolating.
2. B) discounting.
3. C) compounding.
4. D) regression analysis.

Answer: B

The process of determining which set of investments in plant and equipment to undertake is called

1. A) regression analysis.
2. B) loss forecasting.
3. C) time value of money analysis
4. D) capital budgeting.

Answer: D

Which of the following statements is (are) true regarding the net present value of a capital investment?

1. Net present value does not consider time value of money.
2. A positive net present value represents an increase in value to the firm.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: B

Millie is risk manager of JKL Company. She is considering an investment in a loss control project. The project will cost $40,000. Assuming a 10 percent discount rate, the present value of the future net cash flows that this project will generate is $60,000. What is the net present value (NPV) of this project?

1. A) $20,000
2. B) $26,000
3. C) $60,000
4. D) $100,000

Answer: A

A computerized data base that permits risk managers to store and analyze risk management data is called a

1. A) risk management information system.
2. B) risk management Intranet.
3. C) risk management web site.
4. D) risk map.

Answer: A

A grid charting the potential frequency and severity of losses is called a

1. A) risk management information system.
2. B) risk management Intranet.
3. C) risk management web site.
4. D) risk map.

Answer: D

Which of the following statements is (are) true with regard to the use of technology in risk management programs?

1. Risk management Intranets are networks intended for an internal audience.
2. Risk management information systems can be used to store and track workers compensation claims data.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: C

Terrorists attacked the World Trade Center on September 11, 2001. The attack simultaneously created large losses for life insurers, property insurers, workers compensation insurers, health insurers, and liability insurers. What name is given to an event that simultaneously creates large losses in several lines of insurance?

1. A) speculative loss
2. B) clash loss
3. C) retroactive loss
4. D) consequential loss

Answer: B

Which of the following was a consequence of passage of the Financial Modernization Act (Gramm-Leach-Bliley)?

1. A) Formation of insurers was made easier because capital requirements were reduced.
2. B) It became easier for insurers to conduct business as they were no longer required to be licensed in each state where they operate, but only in the state where they are domiciled.
3. C) Insurers were required to prepare financial statements using generally accepted accounting principles (GAAP) instead of using statutory accounting.
4. D) Depression-era barriers between underwriting risk, depository functions, and securities underwriting were eliminated.

Answer: D

The transfer of insurable risk to the capital markets through the creation of a financial instrument is called

1. A) coefficient of risk.
2. B) securitization of risk.
3. C) financial risk management.
4. D) enterprise risk management.

Answer: B

LMN Insurance Company is concerned about its exposure to hurricane losses for property risks it insured on the Gulf Coast. LMN borrowed money from investors by issuing financial securities. LMN promised to repay the money it borrowed with interest if hurricane losses do not exceed a specified level. If hurricane losses exceed the specified level, LMN will repay less than it borrowed and use the extra money to fund hurricane losses. The securities that LMN issued are

1. A) call options.
2. B) futures contracts.
3. C) weather options.
4. D) catastrophe bonds.

Answer: D

Hedge Fund Company offers a mutual fund to investors. Fund managers are concerned about fund volatility. They analyzed the fund to determine the worst loss likely to occur in a calendar quarter, assuming a 90 percent level of confidence. The worst probable loss is known as the fund's

1. A) unrealized capital gain.
2. B) value at risk.
3. C) beta coefficient.
4. D) surrender value.

Answer: B

Reasons to adopt an enterprise risk management plan include all of the following EXCEPT

1. A) to increase earnings volatility.
2. B) to treat risks facing the business in a more holistic way.
3. C) to increase net income.
4. D) to gain an advantage over competitors.

Answer: A

Which of the following statements concerning the securitization of risk is (are) true?

1. Securitization increases the capacity of the insurance industry.
2. Securitization can be used to protect against catastrophic loss.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: C

Insurance Brokerage Company uses a computer-based method of estimating the losses its clients will suffer if a severe storm or earthquake occurs. This method of estimating losses is called

1. A) capital budgeting.
2. B) securitization of risk.
3. C) risk mapping.
4. D) catastrophe modeling.

Answer: D

Uncertainty pertaining to the organization's goals and objectives and the organization's strengths, weaknesses, opportunities, and threats is called

1. A) operational risk.
2. B) strategic risk.
3. C) subjective risk.
4. D) pure risk.

Answer: B

Consolidation in the insurance industry is a continuing trend. One area where mergers and acquisitions frequently occur is between marketing intermediaries who represent insurance purchasers. These intermediaries are called

1. A) insurance adjusters.
2. B) insurance agents.
3. C) insurance underwriters.
4. D) insurance brokers.

Answer: D

Five Below Zero is a new ski resort in Colorado. Five Below Zero is concerned that an abnormally warm winter will prevent the accumulation of snow needed to have a profitable ski season. Five Below Zero purchased a contract that will pay a lump sum if the daily high temperature exceeds 30 degrees for more than 12 days between January 1st and March 31st. The contract Five Below Zero purchased is called a(n)

1. A) catastrophe bond.
2. B) weather option.
3. C) interest rate swap.
4. D) convertible bond.

Answer: B

Which statement is (are) true concerning catastrophe models?

1. Businesses other than insurance companies use catastrophe models.
2. Catastrophe models are able to precisely predict disaster occurrences and loss values.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: A

Which of the following is a financial derivative that derives value from specific insurable losses or from an index of values?

1. A) commodity futures contract
2. B) corporate bond
3. C) catastrophe bond
4. D) insurance option

Answer: D

An emerging concern for risk managers is the greater volatility that has been observed in weather patterns—higher high temperatures, lower low temperatures, record rainfall, drought, etc. Collectively, this risk is called

1. A) seismic risk.
2. B) hurricane risk.
3. C) speculative risk.
4. D) climate change risk.

Answer: D

Which of the following statements regarding terrorism insurance is (are) true?

1. There is a federal backstop if terrorism claims are catastrophic.
2. Private insurers market terrorism insurance.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: C

The terrorism risk in the United States

1. A) is of no concern to private companies.
2. B) is limited to attacks by foreign nationals.
3. C) can be addressed through risk control and insurance.
4. D) is an uninsurable risk.

Answer: C

Which of the following is a demographic factor that has increased losses from climate change in the United States?

1. A) The increasing life expectancy in the United States.
2. B) The increasing population in Southern states such as Florida, Texas, and South Carolina.
3. C) The declining fertility rate (live births per women of child-bearing age) in the United States.
4. D) The growth in the number of families living below the poverty line in the United States.

Answer: B

Last year, XYZ Insurance Company had a combined ratio of 102.4 and lost $10.2 million on the insurance that it sold. The company, however, was required to pay income taxes. The best explanation for this apparent contradiction is that XYZ offset its underwriting loss with

1. A) increased loss reserves.
2. B) investment income.
3. C) increased loss adjustment expenses.
4. D) unearned premiums.

Answer: B

ABC Company in considering a loss control investment. The project will cost $100,000. It will generate an after-tax net cash flow of $60,000 one year after investment and an after-tax net cash flow of $60,000 two years after investment. The present value of $1 received one year from today assuming a 6 percent rate is .9434. The present value of $1 received two years from today assuming a 6 percent interest rate is .8900. Assuming a discount rate of 6 percent, what is the net present value (NPV) of this project?

1. A) $10,004
2. B) $13,195
3. C) $16,604
4. D) $20,000

Answer: A

Which of the following statements about the risk of terrorism in the United States is (are) true?

1. Congress created a federal backstop for terrorism claims.
2. Coverage for losses attributable to terrorism is not marketed by private insurers in the U.S.
3. A) I only
4. B) II only
5. C) both I and II
6. D) neither I nor II

Answer: A

When announcing that an enterprise risk management program would be implemented at XYZ Company, the president of the company observed, “We must overcome the silo mentality for the program to be successful.” The “silo mentality” refers to

1. A) over-emphasis on pure risks and ignoring speculative risks.
2. B) using too much of one risk treatment measure and ignoring other risk treatment methods.
3. C) focusing narrowly on one area and not viewing risk holistically.
4. D) everyone assuming someone else is responsible for managing a risk and no one taking leadership.

Answer: C

The first step in the enterprise risk management process is

1. A) risk analysis.
2. B) implementing and monitoring the program.
3. C) risk identification.
4. D) selection of risk treatment measures.

Answer: C

A bank stores depositor data electronically. The data include financial account values, social security numbers, and other information. An outside party was able to gain access to the bank’s customer data through unauthorized access to the bank’s computer system. The outside party was able to steal money from the accounts and to sell customer data, including social security numbers, to others. This scenario illustrates

1. A) terrorism risk.
2. B) climate change risk.
3. C) speculative financial risk.
4. D) cyber-liability risk.

Answer: D

A risk manager analyzed fleet accident data to help determine which loss control measures would provide the greatest safety incentives for drivers. Examining data to generate information that will help make more informed decisions is called

1. A) predictive analytics.
2. B) catastrophe modeling.
3. C) sensitivity analysis.
4. D) data mining.

Answer: A

West Coast Insurance writes property and liability insurance in California, Oregon, and Washington. These states are all susceptible to earthquakes. To help determine how much reinsurance to purchase, West Coast Insurance hired an organization to use a computer algorithm to estimate what its insured losses would be if a severe earthquake occurred. West Coast Insurance based its purchase of reinsurance on the loss estimates. This scenario illustrates using

1. A) value-at-risk analysis.
2. B) catastrophe modeling.
3. C) risk mapping.
4. D) a risk management information system.

Answer: B

Palmer Polymers is changing from a traditional risk management program to an enterprise risk management program. As a first step, the risk manager determined all the risks that the organization faces. Next, she created a grid with loss frequency on the x-axis and loss severity on the y-axis. Then she plotted all of the loss exposures based on frequency and severity. The grid and the plotted loss exposures are called a

1. A) probability distribution.
2. B) catastrophe model.
3. C) risk map.
4. D) risk management information system.

Answer: C