Insurance and What It Does

Written by: Samuel Gregoth
06/14/2019

insurance-business

People always like to know that their bets are covered. It is always nice to know that you will not need to start over from scratch whenever something knocks you down; that is probably the simplest possible concept of insurance. Insurance, as the name suggests, is something that people take out in case something negative should happen to their investments. “Investments” are liberally defined here as it can mean anything that you invest time or money into those things that are important to you, such as your health or life. Insurance can either be paid out to you or someone else that you signify, allowing it to cover a wide variety of situations. This also allows it to be used as a way to back some investments. 

Insurance can actually be sort of exciting, especially if you happen to be the insurer. Insurance works as a form of collective investment. The basic concept is that everyone pays into a central fund against the idea that any one of those involved may need it; since it is actually relatively rare that anyone needs money from the fund the majority is used to finance other investments, such as stocks and bonds or real estate and loans. The interest from those investments helps to pay for any payments. When someone triggers the insurance that person receives a payout based on their membership level and how long they have been paying into the fund. 

First the boring part: The amount a person pays into the fund depends on their odds of needing to dip into the fund and how high of a deductible they are willing to take on. The more the person is willing to pay the less they need to pay for the insurance. Also, when a person applies for insurance the insurer determines how much of a risk that the person is based on relevant factors; the more likely that the person is to need money from the fund, the higher the risk that person is, the more they need to pay into the fund. This is generated by comparing actuarial tables, which are based on specific research that cross-references information about people and their odds of having to worry about specific risks with how often the person pays. 

What this means is that an insurance company will have a very good idea of how much trouble a person is likely to get into and the odds of their surviving. With all of the expertise of a Vegas oddsmaker, an insurance salesman can reasonably determine how much of a risk that the person can be relative to his particular brand of insurance. While there is a certain art to it they do nonetheless have a number of tables available to them that helps them to determine just how likely a person is to get into any type of accident as well as how long that person is likely to live; all of this goes into determining the cost of that person’s insurance per month and from there their annual or biannual rates. 

However, this allows for some excitement. From the insurer’s perspective the moneys generated allow the insurance company to invest which can be somewhat exciting: While most of the money is invested in relative sure bets such as mutual funds and bank investments the rest of it is invested in ways that may be high risk but are also potentially high return, such as new business ventures or other investment opportunities. By combining the two approaches an insurance company can actually do well over time; it is just a matter of playing it safe with the majority of its funds and risking part of that capital on other investments. By doing this successfully the company can do very well over the long term.

Suffice to say that this can make board meetings somewhat intense as different groups point out that it may be time to be more conservative or more liberal with the investments of an insurance company. As there is no question that both approaches work it can make for some heated debates as to which strategy holds sway and to what degree; after all, slow but safe gains will not make a company successful as the investments just do not make money fast enough for most companies, but too many high risk/high reward investments can cause the company to go into bankruptcy. The key is to find the perfect balance between risk and safety, and that debate always makes board meetings fun, especially given how risk-averse most money managers can be. 

While this all looks sort of boring this means that insurance companies are one of the hottest businesses out there. This does require some serious accounting acumen, however; on paper, they can be sort of hard to track as they have a number of diversified investments but require some decent management so they can manage a wide range of different investments. That wide range means that the managers need to be on top of their game, especially for the more volatile stocks, such as for new companies in untested businesses. This can make for some stressful moments, but for those with the skills in accounting and stress management, this can make for an interesting career. 

This also gives the insurance company an obvious side business. A lot of insurance companies also have personal investment offices, where they act as financial managers for individuals and other companies. A financial manager needs to find ways for his clients to increase profits but spread the sums of money across a wide variety of different investments. This parallels perfectly what the parent company is doing and provides a little extra money for the company’s coffers. This also gives the parent company a way to experiment with new models of income generation without risking their own money. Suffice to say that the volunteers are more willing, especially if the new methods promise stronger profits to the investors.

Of course, the parent company and its child companies are linked in another way. Some forms of insurance can be used to obtain loans; life insurance policy-holders can name those they owe as their beneficiaries and obtain funds based on the life insurance policy. This means a person can use the insurance gained from the parent company to find funds for the child company, ensuring that parent company obtains funds from the insured on both sides of the interaction. 

Suffice to say that this means that insurers are carefully monitored by the Securities and Exchange Commission as the possibility of malfeasance is high, especially if a financial manager gets a little too greedy. Becoming a financial manager requires not only testing but certification and the willingness to be audited every so often. The SEC is always looking for those that are padding their own books at the expense of their clients, and they have no problem bringing the full power of the law down on those that attempt to do so. This also means that the companies hire their own forensic accounting to verify the books of those that work for them. 

This makes insurance a far more interesting business that it seems at first glance. The companies provide a vital service in helping to keep costs down for those they insure and use the funds to make sure their communities have the funding that they need to operate smoothly. They also provide a way for those with means to invest in their communities as well. Rather than merely looking like a boring business this helps to make insurance a major part of their communities, providing both a number of vital financial services. 


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