What is 'risk pooling'?

Risk pooling refers to the practice of combining the risks of multiple individuals or entities to manage and spread the overall risk among them. By gathering a large number of insureds, an insurance company can better predict and mitigate potential losses. This is fundamental to how insurance operates because it allows the cost of insuring risks to be shared among numerous policyholders.

When individuals pay premiums, the collective funds from these premiums can be used to cover the claims that arise, ensuring that no single policyholder faces the full financial burden of a loss alone. This collective approach lowers the financial impact of individual claims and makes insurance more affordable and viable for both the insurer and the insured. It's an essential concept that underpins many of the fundamental principles of insurance, making it easier to cover unexpected events and offering peace of mind to policyholders.