Free CFP Exam Risk Management and Insurance Planning Practice Questions

A is correct. The law of large numbers is a fundamental statistical principle stating that as the number of independent exposure units (policyholders) increases, the actual results will more closely approximate the expected (predicted) results. This allows insurers to predict aggregate losses with greater precision and set appropriate premiums. B is wrong because reducing the pool size worsens predictions, not improves them — fewer exposure units increase variance between actual and expected losses. C is wrong because the law of large numbers concerns the number of exposure units, not a relationship between claim size and claim frequency; these are independent variables. D is wrong because the law of large numbers applies to exposure units within a single insurer's pool, not to market competition among multiple insurance companies.

Standard homeowners policies typically exclude or severely limit coverage for business property and business liability. A home-based business owner who stores \$25,000 of business equipment at home would generally find that coverage is excluded or capped at a low sublimit (often \$2,500). The homeowner would need a home business endorsement or separate commercial policy. Personal jewelry, guest liability at the residence, and personal computers are generally covered under standard homeowners policies.

With no dependents, the executive has no income replacement need to protect survivors, making a large term life insurance policy the least appropriate recommendation. Her significant assets support a higher deductible (risk retention) on homeowners insurance. A large umbrella policy is appropriate given her substantial net worth at risk in a lawsuit. Maximum disability coverage protects her high income — a significant exposure.