Board of Certified Safety Professionals (BCSP) Practice Exam

Which type of insurable risk is transferred to the capital markets through financial instruments?

1. Diversification of risk

2. Securitization of risk

3. Traditional insurance

4. Retention of risk

The correct answer is: Securitization of risk

The correct answer is based on the concept of risk securitization, which involves transforming insurable risks into tradable financial instruments. This process allows businesses to transfer certain types of risks to the capital markets. By pooling various risks and creating securities linked to those risks, entities can raise capital and share the financial burden associated with potential losses. Securitization of risk is particularly significant for insurance and financial industries, as it enables a more efficient allocation of risk among various investors, potentially leading to lower costs for the insured party and increased capacity for risk-taking within the market. This method takes advantage of the diverse experience and resources of capital market participants who may be better positioned to absorb certain risks than traditional insurance companies. In contrast, diversification of risk typically involves spreading exposures among various assets or policies to reduce the overall risk for an entity. Traditional insurance refers to the conventional setup where insurers take on and pool risks. Retention of risk is the strategy of keeping risk within the organization, rather than transferring it. These concepts are distinct from securitization, as they do not involve the involvement of capital markets in the same way.