Pure Risk: There are only two possibilities; something bad happening or nothing happening. It is unlikely that any measurable benefit will arise from a pure risk. The house will enjoy a year with nothing bad occurring or there will be damage caused by a covered cause of loss (fire, wind, etc.). Predicting the outcomes of a mire risk is accomplished (sometimes) using the law of large numbers, a priori data or empirical data. Pure risk, also known as absolute risk, is insurable.
Speculative Risk: Three possible outcomes exist in speculative risk; something good (gain), something bad (loss) or nothing (staying even). Gambling and investing in the stock market are two examples of speculative risks. Each offers a chance to make money, lose money or walk away even. Again, do not equate gambling and investing on any other level than as both being a speculative risk. Gambling is designed to enrich one party (the house); the odds are always in its favor. Investing is designed to enrich all involved, the house that set up the “game” AND those that chose to place money in the game – all participants with “skin in the game win or lose together. Speculative risk is not insurable in the traditional insurance market; there are other means to hedge speculative risks such as diversification and derivatives.
- Meaning – Pure risk involves no possibility of gain; either a loss occurs or no loss occurs
- Example – An example of pure risk is the risk of becoming disabled as a result of illness or injury.
- Insurance – Pure risk, the risk of loss without the possibility of gain is the only type of risk that can be insured.
- Meaning – Speculative Risk involves three possible outcomes: loss, gain or no change.
- Example – Trading in the stock market may result in making either a profit or loss or neither a profit nor loss i.e., no change in the investment value.
- Insurance – Speculative Risk cannot be insured.