Saturday, April 15, 2006

Gambling with your insurance plan?

There is a fine line between hedging your risk or gambling with the hedging instruments. Insurance is for us to hedge against our financial loss upon the occurrence of an event. It is not meant to be used so that we are financially better after the event and the subsequent insurance claim.

When an event strikes, if our financial loss is covered by insurance, this is called proper hedging of risk. However, if not only our loss is covered but we are financially better off from our insurance claims after the occurrence of an event, we are gambling.

If we buy insurance more than what we need, the premium that we pay for just cover our loss is for the purpose of hedging, the extra premium we pay in order to have extra insurance claims is for gambling.

If we buy an insurance plan when we will be financially better off after the strike of an event, the extra premium we pay is just like the money that gamblers pay to 4D, TOTO, Big Sweep, etc. There is no different.

In lottery, you pay the bookie your bet. When the event strikes (you strike lottery) you are financially better. In buying insurance, you pay extra premium (more than actually required to just cover loss) to the insurance company. When the event strikes (though unfavorable), you cover your financial loss (hedging) and have extra money (gambling).

We were usually told (by agents), "Isn't it better if you have extra money after these things happened". Yeah, sure. It is also how gamblers convince themselves, "Isn't it better if I have extra RM3 million if my Big Sweep ticket strike."

This is particularly true in the education fund insurance that you pay for your children future education. Education fund insurance covers child's life. STOP! Why cover child life? Your child has not earned income yet! What financial loss that you are hedging against in the event of your child's death? (Touch wood.) Funeral expenses? It can be minimised, therefore it is not really an issue. So, a family becomes financially better (from the child's life insurance claim) after the death of their child.

This is a unpleasant example, but it illustrates well on the gambling part of insurance. When we pay what we don't need, when we were convinced by insurance agents buying more than covering our actual FINANCIAL loss (not emotional loss, etc.), we are gambling with insurance. No wonder we always feel insurance is expensive.

1 comment:

  1. life insurance coverage with kids is vital. Nobody really wants to think about their mortality, nevertheless it's vital to ensure that children have the funds they might require should a parent or gaurdian perish prematurely


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