Deck 20: Appendix C: Risk: The Basics of Risk Management

Question 1

Risk is something we only face occasionally in our lives.

Answer 1

False

Question 2

You can insure against the possibility of financial risk of loss by buying casualty insurance.

Answer 2

True

Question 3

The law of large numbers postulates that as a sample size grows, the mean of the sample will get further away from the mean of the total population.

Answer 3

False

Question 4

One of the most common types of insurance policies is disability insurance.

Question 5

All of the following are examples of risks EXCEPT when

A) terrorists bomb major cities.
B) a person gets stuck in traffic on the way to work.
C) a person's gas stove starts leaking gas into the house.
D) an identity thief steals a person's credit card information and uses it to buy big ticket items.
E) flooding occurs that totals a vehicle.

Question 6

All of the following are considered to be uninsurable risks EXCEPT

A) the economic risk of lost market share.
B) interest rate risk.
C) the political risk of investing in foreign countries.
D) currency fluctuations.
E) loss due to personal injury.

Question 7

Molly invests in stocks and bonds, which have the possibility of a gain or a loss. What can be used to cover her possible losses from fluctuating prices?

A) a financial derivative
B) an insurance policy
C) a government promise
D) a speculative contract
E) an insurance option

Question 8

Taking more risk means potential for

A) higher returns and no losses.
B) lower returns and higher losses.
C) higher returns and losses.
D) lower returns and losses.
E) higher returns and lower losses.

Question 9

Allister's Auto Insurance Company adjusts its rates on automobile insurance annually. The price of the company's policies reflects all of the following EXCEPT the

A) perceived danger of driving.
B) previous year's accidents.
C) replacement value of the automobile.
D) driver's driving record.
E) age of the automobile.

Question 10

Why do insurance companies like to insure many people?

A) the law of actuaries
B) the law of risk taking
C) the risk-return trade-off
D) the law of large numbers
E) risk aversion theory

Question 11

Which statement is true regarding the reserves kept by insurance companies?

A) They take several weeks to sell and convert to cash.
B) They are usually not enough to cover unexpected losses.
C) They are kept in financial assets such as stocks, bonds, and U.S. government securities.
D) They are more likely to be in the form of stocks when invested by life insurance companies.
E) They are more likely to be in the form of bonds when invested by property casualty insurance companies.

Question 12

All of the following are true regarding life insurance policies EXCEPT

A) you can name anyone as your beneficiary or even have multiple beneficiaries.
B) beneficiaries must be people.
C) people often buy these policies to leave money to cover debts they want paid.
D) some companies provide these policies as part of their employment contract.
E) these policies can be purchased for $10,000 or millions of dollars, depending on how much you want your beneficiary to receive.

Question 13

Phil has a life insurance policy that provides a death benefit based on his age, health, and life expectancy. His policy is the simplest form of insurance and is called ________ life insurance.

A) term
B) mortality
C) whole
D) permanent
E) variable

Question 14

A whole life insurance policy is

A) a policy that covers you for your entire life.
B) a policy that covers all your insurance needs, including automobile, home, and life.
C) a policy that costs less than a term life policy.
D) a term life policy with a savings account.
E) a policy that makes you wait until you die to get financial rewards for your loved ones.

Question 15

Clayton buys an insurance policy that invests his set savings amount into financial assets without guaranteeing the return. Thus, Clayton has the opportunity to get a better return than the guaranteed rate. Which type of insurance policy does this scenario best describe?

A) investors life insurance
B) fixed-rate life insurance
C) term life insurance
D) whole life insurance
E) variable life insurance

Question 16

An annuity is

A) always an annual payment.
B) a guaranteed equal payment for a given number of periods.
C) always a monthly payment.
D) a payment that does not have to be equally spaced.
E) a payment that can be made anytime after you receive the bill.

Question 17

All of these scenarios are examples of annuities EXCEPT

A) Chris only has to pay credit card bills when he buys items with his card.
B) Mallory pays $500 in rent every month.
C) Steve pays monthly installments of $50 per month for the holiday presents he bought on layaway.
D) Crystal pays a heating and air conditioning specialist $150 twice per year to prepare her temperature control system prior to Summer and Winter.
E) Kate pays $1,500 per month for her mortgage.

Question 18

What is true regarding annuities?

A) They only benefit you if you live longer than expected.
B) They give you variable returns and a higher rate of return.
C) They are less risky than the stock and bond markets because they let you know what your monthly income will be.
D) They only benefit you if you don't retire.
E) They usually benefit the insurance company more than they benefit you.

Question 19

All of the following are types of property for which you can buy property casualty insurance EXCEPT

A) intangible possessions.
B) houses.
C) automobiles.
D) stamp collections.
E) physical possessions.

Question 20

What explains why property casualty insurance is sometimes called property and liability insurance?

A) because the policy takes away any responsibility the policyholder might have if his or her own property is damaged
B) because the policy protects the policyholder if someone else damages his or her property
C) because the policy covers the policyholder's liabilities and assets
D) because the policy protects the policyholder from faulty products
E) because the policy includes coverage for damage to other people or property

Question 21

Barry owns a car dealership. He bought ________ insurance that will reimburse him if he loses any of the dealership's cars in the event of fire, theft, or other calamities. This insurance will also cover lost income.

A) calamity
B) liability
C) property casualty
D) business interruption
E) automobile

Question 22

________ is the division of an insurance policy among many different insurance companies.

A) Coinsurance
B) Reinsurance
C) Multi-insurance
D) Insurance partnership
E) Insurance collaboration

Question 23

Jonathan lost his job and the health insurance coverage that his employer had provided. As a result of the Affordable Care Act, what may he experience in getting a new policy?

A) He may have trouble finding any health insurance options.
B) He may not qualify for health insurance.
C) He may be able to sue his previous employer and get continued health insurance coverage.
D) He may find that he is entitled to basic free coverage, so he doesn't need to get a new policy.
E) He may have to pay more for a new policy.

Question 24

All of the following are true regarding health insurance EXCEPT

A) it is expensive.
B) it covers the two basic areas of hospitalization and medical.
C) it generally covers the two basic areas of preventative care and prescription drugs.
D) there may be a co-pay or minimum payment the insured has to pay toward hospital expenses.
E) surgical medical insurance usually pays for the doctor's fee, the anesthesiologist, and surgical expenses.

Question 25

Laurel works for an accounting firm that offers dental insurance as one of its benefits. What would this policy most likely include?

A) the partial cost of fillings up to a fixed yearly limit
B) the full cost of fillings with no fixed yearly limit
C) the full cost of crowns up to a fixed yearly limit
D) three teeth-cleaning appointments per year
E) one teeth-cleaning appointment per year

Question 26

What is true regarding disability insurance?

A) If you are unable to work due to an accident or injury, this insurance requires your employer to continue paying you your full salary.
B) This insurance only covers you for a limited amount of time, regardless of how long you are unable to work.
C) Few corporate insurance plans cover disability.
D) It covers a portion of your salary if you are unable to work due to an accident or illness.
E) It covers your full salary if you are unable to work due to an accident or illness.

Question 27

All of the following are true of Medicare EXCEPT

A) a person is eligible once he or she retires and receives Social Security benefits.
B) Medicare Part A covers doctor's fees.
C) Medicare Part D provides drug coverage.
D) Medicare is not free.
E) with Medicare, the more income you make, the more you pay for insurance.

Question 28

All of the following are types of insurance corporations must have EXCEPT

A) health and disability insurance for their employees.
B) life insurance for key executives.
C) property casualty and liability insurance for injuries to employees and others.
D) automobile insurance to ensure that their employees get to work safely.
E) directors and officers liability insurance to protect the board of directors from lawsuits.

Question 29

Which of the following accurately compares business risk and operating risk?

A) Business risk is related to the inability of a firm to hold its competitive position and maintain stability and growth in earnings, while operating risk focuses on the volatility of operating earnings.
B) Business risk involves the ratio of sales to assets; while operating risk involves changes to the competitive environment due to changing consumer tastes, new players, and new technology.
C) Business risk and operating risk are exactly the same.
D) Both occur because the company does not keep up with its competitors due to lack of research and development, lack of forward planning, and poor management.
E) Both can be measured by the standard deviation of operating earnings.

Question 30

EduPub, a small educational publishing company, is struggling to keep up with its competitors and continue to grow its earnings. This company is finding that new players and technology are changing the landscape for the entire publishing industry, and its poor management and lack of forward planning is causing it to fall behind the curve. Which type of risk does this scenario best describe?

A) liquidity risk
B) currency risk
C) financial risk
D) operating risk
E) business risk

Question 31

Craig's Construction Company borrowed money to buy the heavy machinery it needs to complete its construction projects. As a result, this company has a high ________ risk.

A) operating
B) financial
C) business
D) liquidity
E) currency

Question 32

Which of the following best describes currency risk?

A) Currency risk occurs when companies are highly indebted to other firms.
B) Currency risk can be measured by the standard deviation of operating earnings.
C) Currency risk occurs because consumer tastes are always changing, and businesses must keep their offerings current.
D) Currency risk is associated with investing in firms operating in foreign countries.
E) Currency risk is always present for corporations with multinational operations.

Question 33

All of the following are true regarding the interest rate risk EXCEPT

A) rising interest rates cause bond prices to rise as well.
B) all investors are subject to this risk.
C) changes in interest rate can affect both an investor's income stream and the value of the investor's assets.
D) rising interest rates cause bond prices to fall.
E) when interest rates rise, it is more expensive to borrow money.

Question 34

Globotech, a global technology company, invests in firms operating in foreign countries. All of the following are risks associated with this practice EXCEPT

A) nationalization of foreign firms.
B) a violent overthrow of the political party in power.
C) foreign government interest in the company's products.
D) blockage of capital flows to investors.
E) punitive legislation against foreign investors.

Question 35

What is true regarding how prices of financial securities and commodities tend to behave over the long term?

A) Prices tend to fluctuate, creating market risk.
B) Prices tend to fall consistently over time.
C) Prices tend to rise consistently over time.
D) Prices tend to be highly volatile, demonstrating why markets can be risky.
E) Prices tend to follow supply and demand and trends related to gross domestic product growth rates and corporate earnings.

Question 36

Stephanie owns a house with an acre of land. When her job relocates her to another state, she must sell her house quickly to get the cash she needs to move and buy a new house. The ability to turn her current house and land into cash quickly is called ________ risk.

A) currency
B) liquidity
C) financial
D) market
E) interest rate

Question 37

It would be safe to say that anyone who ________ experiences various business, operating, financial, currency, interest rate, political, market, and liquidity risks.

A) owns property
B) works for a company
C) owns a business
D) manages a portfolio of stocks, bonds, or commodities
E) has money

Question 38

Carlos manages a portfolio composed of many different companies and asset classes such as stocks and bonds, foreign stocks, and bonds and securities in developed and emerging markets. As a result, his portfolio is considered to be

A) globalized.
B) positively correlated.
C) diversified.
D) classified.
E) risky.

Question 39

Kim invests in the market, and thus, she is subject to market risks. By diversifying her portfolio, she can minimize price volatility or at least keep the volatility of returns equal to or less than the market in which she invests. She can use statistical measures such as the standard deviation or beta to measure her ability to minimize volatility. If Kim wants her risk to equal that of the market, she should invest in stocks with

A) a beta of 1.0.
B) betas greater than 1.0.
C) betas less than 1.0.
D) a beta of 0.1.
E) betas greater than 0.1.

Question 40

Investors of all kinds can resort to financial engineering to minimize risk. All of the following are sophisticated investors who use financial engineering EXCEPT

A) hedge funds.
B) insurance companies.
C) commercial banks.
D) investment banks.
E) individuals.

Question 41

Describe how the law of large numbers relates to insurance companies.

Question 42

Briefly discuss the risks that cannot be insured by companies.