Math, not magic

It is amazing, almost miraculous, but it isn’t magic, it isn’t a miracle

It is mathematics

The small premium you pay for insurance buys huge benefits.  In rough numbers, suppose you have a $200,000 home.  The premium for insuring it is about $1,200/year.  (my numbers are not at all exact, just very rough estimates).

If your home were wiped out by fire or windstorm, your insurer will pay $200,000, plus another $100,000 or so to replace personal property that was in the home, and maybe pay some temporary housing expense.  All together around $320,000.

You paid $1,200, received benefits of $320,000!


A miracle?

Actually just mathematics.  Some smart guys studied statistics.  They studied:

* Frequency – how many claims will happen among 1,000 homeowners

* Severity – the average cost per claim

* Expenses – how much the insurance company will spend to be in business

*Profit – about 5%

And divided the answer by the number of homes insured.  And came up with $1,200/year for a $200,000 home.  All the buyers of insurance paid their share of the total.  Only a few actually had a loss/claim in the year.  The premium paid by those who didn’t have a loss paid for the damages suffered by those who did.  


by Dennis