Certified Financial Consultant (CFC) Practice Exam

What advantage does reinsurance provide to insurers?

1. It expands their service offerings

2. It increases their client base

3. It protects against catastrophic losses

4. It reduces regulatory compliance costs

The correct answer is: It protects against catastrophic losses

Reinsurance provides a critical safety net for insurers by protecting them against catastrophic losses. This is especially important for managing risk associated with large-scale claims such as those resulting from natural disasters, significant accidents, or other events that could lead to substantial financial repercussions. By transferring a portion of their risk to other specialized companies, insurers can maintain stability in their operations and prevent potential insolvency in the face of high-severity claims. This mechanism allows them to confidently underwrite larger policies and broaden coverage opportunities without exposing themselves disproportionately to significant financial risks. While expanding service offerings, increasing the client base, and reducing regulatory compliance costs may be beneficial aspects of an insurer's overall strategy, they do not directly address the primary purpose of reinsurance. The core function of reinsurance lies in its risk management capabilities, specifically its ability to safeguard insurers from unexpected and overwhelming losses, thus ensuring financial resilience and continuity in their operations.