What do individuals use to transfer their risk of loss to a larger group?

• A. Insurance
• B. Reinsurance
• C. Risk pooling
• D. Hedging

Answer: (A)

Insurance is the mechanism by which an individual shifts the financial risk of loss to a larger group. When you purchase a policy, you pay a premium and the insurer takes on the possibility of paying for covered losses. This creates a pool of funds from many policyholders, allowing the insurer to absorb individual claims and spread the cost across the whole group. The result is more predictable costs for each person and a system that can pay for losses when they occur.

Reinsurance is different: it’s the transfer of risk from one insurer to another, not from an individual to a group. Risk pooling describes how a large number of insureds together share the risk, which underlies insurance, but the act of transferring personal risk is accomplished specifically through buying an insurance policy. Hedging uses financial instruments to offset risk, not an insurance contract.