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Lecture Financial markets and institutions (4/e) – Chapter 15

In this chapter we explore the principles of both operating leverage and financial leverage. The former is due to fixed operating costs associated with the production of goods or services, whereas the latter is due to the existence of fixed financing costs – in particular, interest on debt. Both types of leverage affect the level and variability of the firm’s after-tax earnings, and hence the firm’s overall risk and return. | 8- McGraw-Hill/Irwin Chapter Fifteen Insurance Companies 15- McGraw-Hill/Irwin Insurance Companies (ICs) The primary function of insurance companies is to compensate policyholders if a prespecified event occurs, in exchange for premiums paid insurance underwriters assess and price risk insurance brokers sell insurance contracts for coverage or for a policy Insurance is broadly classified into two groups life insurance provides protection against untimely death, illness, and retirement property-casualty insurance protects against personal injury and liability Insurance companies also sell a variety of investment products similar to other FIs 15- McGraw-Hill/Irwin Life Insurance Companies Approximately 1,300 life insurance companies exist in the U.S. in the mid-2000s compares to 2,300 in 1988 the industry has seen consolidation to take advantage of scale and scope economies Aggregate industry assets were $4.8 trillion at the beginning of 2007 compares to $1.1 trillion in 1988 Life insurance companies can be either stock or mutually owned (where the policyholders are the owners) 15- McGraw-Hill/Irwin Life Insurance Companies Life insurers pool the risks of individuals to diversify away some of the customer-specific risk thus, they are able to offer insurance services at a cost lower than any individual could achieve saving funds on their own allows the transfer of income related uncertainties from the individual to the group Other activities of life insurance companies sell annuities, which are savings contracts that involve the liquidation of those funds saved over a period of time manage pension plans (e.g., tax-deferred savings plans) provide accident and health insurance 15- McGraw-Hill/Irwin Life Insurance Companies Insurance companies accept or underwrite risk that a prespecified event will occur in return for insurance premiums underwriting decisions determine which risks are accepted and which are not underwriting decisions | 8- McGraw-Hill/Irwin Chapter Fifteen Insurance Companies 15- McGraw-Hill/Irwin Insurance Companies (ICs) The primary function of insurance companies is to compensate policyholders if a prespecified event occurs, in exchange for premiums paid insurance underwriters assess and price risk insurance brokers sell insurance contracts for coverage or for a policy Insurance is broadly classified into two groups life insurance provides protection against untimely death, illness, and retirement property-casualty insurance protects against personal injury and liability Insurance companies also sell a variety of investment products similar to other FIs 15- McGraw-Hill/Irwin Life Insurance Companies Approximately 1,300 life insurance companies exist in the U.S. in the mid-2000s compares to 2,300 in 1988 the industry has seen consolidation to take advantage of scale and scope economies Aggregate industry assets were $4.8 trillion at the beginning of 2007 compares to $1.1 .