Insurance MCQ

Why are derivatives effective instruments for hedging? A) They are negatively correlated with the firm's underlying risk. B) There are so many of them. C) They enhance the risk pool. D) All of the above are correct Answer: A

Which of the following statements about the bundling risks into portfolios is not correct? A) Due to the randomness of business activity bundling risks into portfolios will be reducing risk. B) Natural diversification occurs across uncorrelated risks that are bundled into a portfolio. C) Bundling risk into a portfolio only reduces risk if uncorrelated and/or negatively correlated exposures are included. D) The best reduction in risk is accomplished by including negatively correlated exposures into a portfolio. Answer: C

Is there a reason why pure risk events, like a hurricane or earthquake, could be bundled into a more general risk portfolio? A) No, pure risks have too devastating an effect. B) Yes, since they are negatively correlated with other risk events. C) No, they are too highly correlated with other risk events. D) Yes, because an insurer can ask a very high premium for including it in the general risk portfolio Answer: B

Which of the following is not correct about hedging speculators? A) They charge a fee for their services. B) They are the counterparty to a risk management derivatives contract. C) They take risks which they mitigate by having superior knowledge of the market they trade in. D) They provide professional management Answer: D

Can risk be completely eliminated? A) No, never B) Yes, as long as the exposure units are positively correlated C) Yes, as long as the exposure units are not correlated and enough are in the pool D) Yes, as long as the correlation coefficient is 0.1 Answer: C

From an insurance viewpoint, is a legal ruling that applies to many business owners a beneficial one? A) No, because it creates a higher correlation coefficient among those business owners B) No, because it creates uncertainty for those business owners C) Yes, as long as the ruling applies to all business owners D) Yes, as long as the ruling applies to enough business owners Answer: A

Which of the following is not an advantage of risk-bearing financial institutions? A) They provide diversification benefits. B) The can save on investments in financial infrastructure. C) They provide administrative services. D) They provide professional management. Answer: B

Which of the following is not a risk that can be hedged? A) Flood B) Commodity prices C) Interest rate movements D) Exchange rate movements Answer: A

If the covariance between two stocks is 115 and the standard deviation of both stocks are 17 and -8 respectively, what is the Correlation Coefficient between the two stocks? A) 0.18 B) 0.85 C) -0.85 D) There is not enough information to calculate the Correlation Coefficient. Answer: C

If the covariance between two stocks is 235 and the standard deviation of both stocks are 45 and 22 respectively, what is the Correlation Coefficient between the two stocks? A) 0.24 B) 0.33 C) 0.76 D) There is not enough information to calculate the Correlation Coefficient. Answer: A

If two random variables are uncorrelated: A) their correlation coefficient cannot be calculated B) their correlation coefficient is zero C) their correlation coefficient depends on the covariance D) All of the above are incorrect. Answer: B

Which of the following statements about correlation is incorrect? A) If two variables are statistically independent of each other, their correlation coefficient is zero. B) Negatively correlated investments offer the best opportunities for diversification. C) If two investments are perfectly correlated, their correlation coefficient is +1. D) The risk of fire is positively correlated with the risk of traffic accidents Answer: D

Which of the following statements about diversification is incorrect? A) Risk-bearing financial institutions employ diversification. B) Diversification reduces risk. C) Mutual funds typically have a diversified portfolio. D) Diversification requires that all investments have the same risk/return characteristics Answer: D

Which of the following statements about the covariance is correct? A) The covariance measures risk. B) The covariance is a number between -1 and +1. C) The covariance measures how two variables move relative to each other. D) All of the above are correct Answer: c

Which of the following statements about the correlation coefficient is correct? A) The correlation coefficient measures risk. B) The correlation coefficient is a number between -1 and +1. C) The correlation coefficient measures how two variables move relative to each other. D) All of the above are correct Answer: b

Which of the following statements about bearing risk collectively is correct? A) Bearing risk collectively is not very cost-efficient. B) Bearing risk collectively only works for small groups. C) Bearing risk collectively is bearing risk as part of a large group. D) All of the above are correct Answer: C

Bearing risk collectively is: A) not very cost-efficient B) more effective for larger groups C) not reducing risk D) only effective when all group members experience the same negative consequences simultaneously Answer: B

Which of the following is not an example of a financial institution that applies collective risk bearing? A) Swiss banks B) Mutual funds C) Pension plans D) Insurance companies Answer: A

Which of the following statements about risk-bearing financial institutions is incorrect? A) An example of a risk-bearing financial institution is a mutual fund. B) Risk-bearing financial institutions concentrate their investments in a limited number of assets. C) Risk-bearing financial institutions assume the risks of their customers. D) All of the above are incorrect Answer: B

Which of the following statements about Enterprise Risk Management is incorrect? A) It deals with a limited number of techniques. B) It has expanded the responsibilities of the corporate risk manager. C) It deals with pure risks. D) It deals with speculative risks. Answer: A