Ethics in insurance

You and I make a bet: if I make a half-court shot, you pay me $5. If I miss, I pay you $1. Before I shoot, a Traveler’s agent walks on the court and offers you an insurance policy against me hitting the shot.

Would you take it? No, of course not — a $5 risk is one you can easily afford to self-insure (assumption).

Now, same bet, except you are paying me your entire life savings if I hit the shot 10 times in a row. Now would you buy insurance?

Well, if I do happen to hit the shot 10x, you will experience a catastrophic loss you may never, ever recover from. That loss will cause you huge pain and suffering. Buying insurance makes sense.

Let’s be a little bit more realistic now. Say I’m a 25-year old Goldman Sachs employee making $150K/yr. I buy a new smartphone and I’m offered mobile phone insurance. Should I buy it? Unless I’m confident that I’m pretty bad with my phone (more so than the average person and then some), I shouldn’t — I can easily afford to self insure that risk.

On the other hand, imagine I’m offered long-term disability insurance, paying me a portion of my wages in case I sustain an injury which prevents me from working at GS ever again. Is this a worthwhile purchase? It definitely could be — if I get in a car accident and can’t work ever again, I may not be able to live forever on the money I’ve saved up. That would be a catastrophic scenario.

You get the idea: when the loss is catastrophic, purchasing insurance can make a lot of sense. But when the loss is small, purchasing insurance usually doesn’t make much sense.

The problem is, people don’t typically understand insurance at this level. Instead, they view insurance as a gamble — something which may turn out to be a good investment or which may turn out to be a bad investment. What people are forgetting is that the best return on an insurance policy is no return at all.

As a seller of insurance, it is your duty to keep this distinction in mind and avoid selling people insurance simply because they don’t have it. Insurance must make sense for them.

Caveat: you may argue that insurance products also create peace of mind, and so even if a risk is easily self-insurable, the peace of mind benefit makes an insurance policy worth buying.

Then you must ask yourself: do people naturally walk around worrying about said risk, or did you induce your customers into worrying about this risk through advertisements designed to create fear?

In my experience, people are much too busy with their lives — they are not thinking about risk and the benefits of insurance unless you cause them to do so. But by doing so, you are actively creating problems to which you conveniently have the corresponding solution.

Nice to meet you too! I’m Krishna — I’m an entrepreneur working on a new startup in the insurance industry. If you are also in the space, I would welcome a conversation. Send me an invitation on LinkedIn with a note and I will follow up.