Relationship between Financial Risk and Financial Performance: An Insight of Indian Insurance Industry

Insurance companies are in the business of taking risks. Worldwide these companies write policies that deal with specific risks, and in many cases, even underwrite exotic risks. Therefore, obtaining coverage for every insurable risk is being replaced by the risk management concept. Risk management, which includes insurance coverage, is intended to minimize the costs associated with assuming certain types of risk and providing prudent protection. Managing risks is an important factor which insurance companies must attend to, if they are to achieve financial performance. From this perspective, the financial risk management has gained due importance for financial institutions and risk management has become one of the most important practices to be used especially in insurance companies in order to get higher returns. Therefore, this study is endeavoured to ascertain the relationship between financial risk and financial performance of insurance companies in India. The results of the multiple linear regression model reveals that capital management risk, solvency risk, liquidity risk, volume of capital and size of company are most important determinants of financial performance of life insurance companies in India, whereas ROA (proxy measure for financial performance) has statistically insignificant relationship with underwriting risk. The study led to the conclusion that 54.7 percent changes in financial performance of life insurance companies in India could be accounted for by changes in capital management risk, solvency risk, liquidity risk, underwriting risk, size of the company and volume of capital. The study established the fact that risks like capital management risk, solvency risk and underwriting risk are the deterrent factors for the financial performance of life insurance companies in India. The study also led to the conclusion that size of a company, volume of capital and more surprisingly liquidity risk are the pull factors for the financial performance of life insurance companies. On the basis of these findings, the study recommends that there is greater need for life insurance companies in India to manage the risks particularly capital management risk and solvency risk more effectively. The study also recommends that there is a dire need for insurance companies in India to increase their size by enhancing their assets base since it was found that size is an important factor influencing their competitive power and financial performance.