What is 'reinsurance'?

Reinsurance is defined as insurance that is purchased by insurance companies to mitigate their own risk. This process allows insurers to share their risk exposure with one another, thus providing a safety net in cases of significant claims or catastrophe. By doing so, it helps stabilize the insurance market and ensures that insurers can remain solvent, even when faced with extraordinarily high claim volumes.

Reinsurance plays a critical role in protecting insurers from large losses, enabling them to underwrite more significant amounts of risk than they would be able to do alone. Not only does this practice enhance an insurer's capacity to pay claims, but it also promotes overall market stability by preventing individual insurers from becoming overwhelmed by unforeseen events.

Other concepts, such as insurance that covers earthquakes only, riders for rare events, or insurance fraud, do not relate to the mutual risk-sharing characteristic of reinsurance and therefore do not capture its essence. Understanding reinsurance allows you to comprehend how insurers manage their financial stability and risk exposure effectively.