How does the insurance sector work?
The insurance sector is composed of companies that offer risk management in the form of insurance contracts. One party, the insurer, guarantees payment for an uncertain future event. Another party, the insured or the policyholder, pays a smaller premium to the insurer in exchange for that uncertain future protection. As an industry, insurance is regarded as a slow-growing, safe sector for investors. This perception is not as strong as it was in the 1970s and 1980s, but it is still generally true when compared to other financial sectors.
One of the interesting features of insurance companies is that they are essentially allowed to use their customers' money to invest for themselves. This makes them similar to banks but to a greater extent. This is sometimes referred to as "the float." Float occurs when one party extends money to another party and does not expect repayment until after a circumstantial event. This mechanism essentially means insurance companies have a positive cost of capital. This distinguishes them from private equity funds, banks and mutual funds.
Not all insurance companies offer the same products or cater to the same customer base. Among the largest categories of insurance companies are accident and health insurers; property and casualty insurers; and financial guarantors. Accident and health companies are probably the most well-known. These include companies such as UnitedHealth and AFLAC, which are designed to help people who have been physically harmed. Property and casualty companies insure against accidents of nonphysical harm. This can include lawsuits, damage to personal assets, car crashes and more. Large property and casualty insurers include AIG and Allianz SE.
Insurance plans are the principal product of the sector. However, recent decades have seen a rise in corporate pension plans and annuities to retirees. This places insurance companies in direct competition with other financial asset providers.