What does the Law of Large Numbers help insurers do?

The Law of Large Numbers is a fundamental concept in the field of insurance that states that as the number of insured entities increases, the actual results will tend to converge on the expected outcomes. This principle allows insurers to predict losses with greater accuracy when they have a large number of insureds.

When many similar risks are pooled together, the variability of the outcomes diminishes, allowing insurers to establish more precise statistical estimates for claims. For example, if an insurer covers a vast pool of policyholders, they can analyze the historical data and come up with an accurate average of expected claims. This prediction is vital for setting premiums and ensuring that the insurance company remains solvent and able to pay out claims.

Overall, the Law of Large Numbers enables insurers to balance their risk more effectively and manage their financial obligations, thus ensuring stability in their operations and a fair premium structure for their policyholders.