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IAI Actuarial Core Principles · Economic Modelling · Role of insurance in reducing or removing risk

Which of the following is a recognised reason why an insurer might prefer excess of loss reinsurance to quota share for a portfolio of fire policies with widely differing sums insured?

Excess of loss reinsurance caps the impact of large individual claims, which are the main source of volatility when sums insured vary widely. The insurer keeps premium and claims on smaller risks. It does not guarantee profit, eliminate capital needs or make retained claims proportional.

  1. AIt removes the insurer's exposure to all claims regardless of size
  2. BIt reduces variability caused by large individual claims while leaving the insurer to keep most of the premium on small risksCorrect
  3. CIt guarantees the insurer a fixed underwriting profit
  4. DIt makes the insurer's retained claims proportional to the sums insured
  5. It eliminates the need for the insurer to hold any solvency capital

Explanation

Excess of loss targets large claims, which drive volatility when sums insured vary widely, while the insurer keeps premium on small, predictable risks. It does not remove all exposure, guarantee profit or eliminate capital needs. Proportionality describes quota share and surplus treaties, not excess of loss.

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