California Insurance License Exam Practice Test Practice Question

Correct Answer: A

Rationale: Adverse selection occurs when individuals with a higher risk of loss are more likely to purchase insurance, leading insurers to face greater claims than anticipated. This phenomenon arises because those aware of their elevated risk seek coverage, skewing the insurance pool.

The law of large numbers (B) refers to the principle that as a sample size increases, the average of the results will converge to the expected value, which does not directly explain the behavior of risk-prone individuals. Probability distribution (C) describes how probabilities are assigned to different outcomes, rather than individual purchasing behavior. Risk pooling (D) involves combining multiple risks to minimize overall exposure, but does not specifically address the tendency of high-risk individuals to seek insurance more aggressively.