Q. State and explain the difference between insurance and hedging Insurance is generally an action taken to offset the impact of a negative event. Taking out insurance is a bet that something bad may happen and that protection against it is needed. Hedging is a type of insurance. However, hedging is a markedly different method of insurance from home, auto and flood insurance. Hedging refers to any series of actions taken to offset the potential risk of losses on a financial investment. Medical, home, auto and flood insurance policies promise to recompense any loss in full or part in exchange for a small monthly fee.
Insurance means protection against any tragedy. Most people do insurance to themselves and their family. The main purpose of taking insurance is to recover in case any disaster happens. Insurance does not increase your financial status, however it is a service charge taken by insurance companies to give you protection against any kind of mis-happening. Insurance can be of short term or long term; in either case people have to pay some amount to the insurance companies for a limited time. The amount, which is paid by people to insurance companies, is called premium and decided as per the scheme taken.
Hedging is a risk management strategy used in limiting or offsetting probability of loss from fluctuations in the prices of commodities, currencies, or securities. In effect, hedging is a transfer of risk without buying insurance policies. Hedging employs various techniques but, basically, involves taking equal and opposite positions in two different markets (such as cash and futures markets). Hedging is used also in protecting one’s capital against effects of inflation through investing in high-yield financial instruments (bonds, notes, shares), real estate, or precious metals. Q. discuss the challenges faced by insurance companies in Kenya.
1. Solvency Companies that offered whole and term life insurance began offering “market-sensitive” products in an effort to expand product portfolios, according to Price Waterhouse Coopers. This gave policyholders competitive returns and gave insurance companies an edge in the financial service market. Consequently, reserve calculations are subjective, more complex and the investment portfolios require more attention in order to manage them so returns and cash flow align with future liabilities. Market sensitive products that involve long- and short-term investments for companies that sell life insurance are seeing low returns.
As a result, insurance companies need to look at other avenues to ensure solvency and increase retention efforts. 2. Reducing Costs Cost cutting efforts can have devastating consequences to insurance companies, but is an issue they face in an effort gain capital. Insurance companies, as they determine which costs to cut, must look at forces behind costs. This helps them ensure a cut in one area does not increase the cost in another, which can make an insurance company less competitive. For example, cutting employee benefits reduces employee retention, or cuts in staff can lead to long turn-around times.
Financial Web states that as insurance company costs increase, their capital decreases. Additionally, insurance companies face difficulties when it comes to creating improvement plans that reduce costs when the plans lack a basis in resources, priorities, dependencies and the integration of the human element, such as training, communication and performance management. 3. Social Media Insurance industry is one of its kind where historically, the trust and relationship between the customers and the company representatives (agents or brokers) have played a critical role in doing business.
But now the world is changing, information is easily available for the customers through various technology mediums like internet; customers can reach out to their computers, tablets or mobile phones to get information on various products and premiums. Though the significance of these middlemen in making the customers comfortable in buying an insurance policy has not been reduced significantly, the world is changing. Thanks to the recent economic lessons history has taught us, the companies are more proactive towards embracing the social media change.
But ‘How’ still remains a big question, at least in the insurance industry. 4. Costs vs. Service As the revenues decrease, the insurance companies face hard time dealing with increasing costs as well. Just like any other companies, as the margins get reduced the companies’ services decrease, partly due to the limited human resource power. With the average age of employees in insurance industry wavering around 50, the challenge in retaining the talent pool becomes another critical issue for the insurance companies. 5. Competition.
The 43 licensed insurance companies compete for a limited market characterized by low penetration. Kenyans’ uptake of insurance cover, both at corporate and personal level, remains predominantly in the motor, fire industrial and personal accident (mainly group medical cover) classes. This illustrates a poor attitude towards personal insurance cover in general. Low penetration of insurance in the Kenyan market, relative to other more developed markets is attributable to the following factors: •A general lack of a savings culture among Kenyans;
•Low disposable incomes for the majority of the population, with close to 50% of Kenyans living below the poverty line; •Inadequate tax incentives that could encourage the middle classes to purchase life insurance products; and •A perceived credibility crisis of the industry in the eyes of the public particularly with regard to settlement of claims. 6. Mergers & Acquisitions In an insurance sector that remains fragmented, the case for continued consolidation is strong.
While funding is likely to be challenging for some time to come, investment in M&A could help companies to develop complementary earnings streams, realize opportunities for cost-saving synergies and strengthen their presence in the regional markets. Smart targeting, skilful execution and effective post-merger integration will be critical in ensuring the success of any deals. 7. Financial Reporting The planned move to a finalized IFRS (International Financial Reporting Standards ) standard for insurance contracts (IFRS Phase II) represents a major overhaul of financial reporting in the industry.
Implementation of IFRS Phase reporting will be demanding. The developments also offer an opportunity to strengthen stakeholder confidence by enabling insurers to convey a single view of their business that more closely reflects the way it is run internally. Called to account: A survey of 2007 IFRS insurance reports, suggests that many companies will need to provide considerably more risk information and explanation to meet the more exacting analyst expectations that have resulted from market events. 8. Human Capital.
Many insurers are facing mounting skills shortages. Yet, investment in recruitment, training and career development often trails behind other financial sectors. The primary focus can often be short-term demands rather than securing the talent companies need to meet longer term strategic objectives. Looking ahead, demographic shifts, evolving aspirations and accelerating globalization are set to transform the shape of the labor market and could make it even harder for insurers to attract and retain good people.
In this competitive labor market, successful companies will need to develop a strategic approach to HR management capable of anticipating and responding to evolving business needs and workforce expectations. They will also need to identify and realize opportunities to differentiate benefits, career development prospects and other key aspects of their employment brand in home and emerging markets. 9. Legislation There are several legislative and taxation changes made in recent years that have had an impact on the Kenyan insurance industry.
These include increase in the minimum capital requirements for insurers, increase in the solvency margin for long term insurers, introduction of ‘cash and carry’ rules which will require that insurers shall assume risk upon receipt of the premium, relaxation of investment limits for general insurers, introduction of penalties on late settled claims, change in the rules on taxation of long term insurance business and taxation of dividend income earned by a financial institution. 10. Culture.
Some cultural practices and beliefs which are not in tune with the current economic realities. 11. Economy growth Poor economic growth. This has led to high poverty levels hence low purchasing power. 12. Knowledge Lack of knowledge and appreciation of the role of insurance by the public. 13. Ignorance Ignorance. Many people don’t think insurance is beneficial to them. 14. Unethical Negative image of the industry caused by unethical practices by some agents and other market players.