How do insurance companies profit?
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The same way as any other bookmaker – by calculating the odds, and setting the stake to payout ratio in their favour.
Why “bookmaker” and “bet”? Because almost all insurance is, simplistically, basically just a bet between you and the company. You effectively bet a small stake (i.e your premium) every so often that something will happen – your house will collapse, say – and the insurance company bets a much bigger amount that it won’t. In the unlikely event that your house does indeed collapse within the period, you “win” your figurative bet, and get a big payout. If it doesn’t, the company keeps your stake. The thing is – the company has LOTS of information about how likely such things are, and they’ve lots of clients making similar bets all the time, so (provided they’re careful about what bets they take) basically it’s just about crunching numbers to ensure that, on average, the stakes collected from the people who “lose” will more than cover the payouts to the ones who “win”.
Insurance is unusual in the gambling world, in that few people play for fun, and most players hope to lose their bets…
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