Alabama Insurance Producer License Study
Resource: Exam-Style Questions with Rationales
1. What principle explains why insurers can predict losses across a large group of similar risks?
- A) Moral hazard
- B) Law of large numbers
- C) Adverse selection
- D) Indemnity
, Correct Answer: B
Rationale: The law of large numbers allows insurers to spread risk over many exposures, making loss predictions more reliable. As the
number of similar risk units increases, the insurer can more accurately predict future losses, which is the foundation of insurance.
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2. Pure risk differs from speculative risk in that pure risk involves:
- A) Potential for profit
- B) Only the possibility of loss or no loss
- C) Investment decisions
- D) Both profit and loss possibilities
Correct Answer: B
Rationale: Pure risk involves only a chance of loss or no loss, with no chance of gain. Speculative risk includes the chance of both profit and
loss (e.g., gambling or investing). Only pure risks are insurable.
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3. Which method of risk handling involves keeping the risk and paying losses out of own funds?
- A) Avoidance
- B) Reduction
,- C) Retention
- D) Transfer
Correct Answer: C
Rationale: Retention means the insured retains the risk and self-insures against losses. This can be intentional (deductibles) or unintentional
(failure to purchase insurance). Self-insurance is a form of retention typically used by large corporations.
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4. An insurable risk must have which characteristic?
- A) Catastrophic in nature
- B) Definite and measurable
- C) Unpredictable in timing only
- D) Exclusively moral hazard free
Correct Answer: B
Rationale: For a risk to be insurable, the loss must be definite and measurable (determinable), not catastrophic to the insurer, and involve a
large number of similar exposure units. The loss should also be accidental and calculable.
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, 5. The tendency of higher-risk individuals to purchase more insurance than lower-risk individuals is called:
- A) Moral hazard
- B) Adverse selection
- C) Risk pooling
- D) Underwriting bias
Correct Answer: B
Rationale: Adverse selection occurs when higher-risk persons are more likely to seek and purchase insurance coverage, potentially harming
the insurer's loss experience. Insurers use underwriting to guard against adverse selection.
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6. A hazard is best defined as:
- A) The cause of a loss
- B) The uncertainty of a loss
- C) Something that increases the chance of a loss
- D) A potential financial loss
Correct Answer: C
Rationale: A hazard is any condition or situation that increases the probability of a loss occurring. Hazards can be physical (e.g., icy roads),
moral (dishonesty), or morale (carelessness). A peril is the actual cause of loss.
Resource: Exam-Style Questions with Rationales
1. What principle explains why insurers can predict losses across a large group of similar risks?
- A) Moral hazard
- B) Law of large numbers
- C) Adverse selection
- D) Indemnity
, Correct Answer: B
Rationale: The law of large numbers allows insurers to spread risk over many exposures, making loss predictions more reliable. As the
number of similar risk units increases, the insurer can more accurately predict future losses, which is the foundation of insurance.
---
2. Pure risk differs from speculative risk in that pure risk involves:
- A) Potential for profit
- B) Only the possibility of loss or no loss
- C) Investment decisions
- D) Both profit and loss possibilities
Correct Answer: B
Rationale: Pure risk involves only a chance of loss or no loss, with no chance of gain. Speculative risk includes the chance of both profit and
loss (e.g., gambling or investing). Only pure risks are insurable.
---
3. Which method of risk handling involves keeping the risk and paying losses out of own funds?
- A) Avoidance
- B) Reduction
,- C) Retention
- D) Transfer
Correct Answer: C
Rationale: Retention means the insured retains the risk and self-insures against losses. This can be intentional (deductibles) or unintentional
(failure to purchase insurance). Self-insurance is a form of retention typically used by large corporations.
---
4. An insurable risk must have which characteristic?
- A) Catastrophic in nature
- B) Definite and measurable
- C) Unpredictable in timing only
- D) Exclusively moral hazard free
Correct Answer: B
Rationale: For a risk to be insurable, the loss must be definite and measurable (determinable), not catastrophic to the insurer, and involve a
large number of similar exposure units. The loss should also be accidental and calculable.
---
, 5. The tendency of higher-risk individuals to purchase more insurance than lower-risk individuals is called:
- A) Moral hazard
- B) Adverse selection
- C) Risk pooling
- D) Underwriting bias
Correct Answer: B
Rationale: Adverse selection occurs when higher-risk persons are more likely to seek and purchase insurance coverage, potentially harming
the insurer's loss experience. Insurers use underwriting to guard against adverse selection.
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6. A hazard is best defined as:
- A) The cause of a loss
- B) The uncertainty of a loss
- C) Something that increases the chance of a loss
- D) A potential financial loss
Correct Answer: C
Rationale: A hazard is any condition or situation that increases the probability of a loss occurring. Hazards can be physical (e.g., icy roads),
moral (dishonesty), or morale (carelessness). A peril is the actual cause of loss.
