Steven S. answered • 05/20/22
Experienced finance professional, MBA grad,exceptional teaching skills
Risk is transferred from the individual to the insurance agency. The incentive for the insurance agency is that they calculate by pooling risk over a larger number of insured people, they will earn a profit.
A catastrophic event is too much for an individual to handle, yet an insurance company can take the risk relative to its overall funds.
It boils down to a mathematical law, known as the rule of large numbers. Say an individual has a 30% chance of losing 100k. The event may be too catastrophic for the individual to withstand. However, for an insurance company that insures, say 1000 people, the probability will be closer to the actual results. For instance, flip a coin once or even ten times, you would expect 50% heads, yet the results may be very different. However, if you flip the coin 100 times, you may see the actual results closer to expected more often. Insurance companies use sophisticated actuarial calculations so profit making is a science.
For the case of the individual... it's often better to be insured.
