Valuation of insurers’ contingent capital with counterparty risk and price endogeneity

Lo, Chien-Ling; Lee, Jin‐Ping; Yu, Min‐Teh

doi:10.1016/j.jbankfin.2013.09.007

Cited by 25 publications

(9 citation statements)

References 30 publications

Supporting

Mentioning

Contrasting

Order By: Relevance

“…The scenario analysis shows that MMPP generates lower pricing errors than the PP and can reduce pricing errors by 30-66%. Lo et al (2013) develop a structural framework for CAT equity put options to recognize counterparty risk and overcome the problem of price endogeneity in the valuation model. Considering price endogeneity can significantly resolve the underestimation problem of option prices, CAT equity put prices will be substantially overestimated without recognizing counterparty risk.…”

Section: Cat Equity Put Optionsmentioning

confidence: 99%

“…In this section, we follow the works of Yu (2002, 2007), Lo et al (2013) and Lo et al (2020) to illustrate the framework and procedures in pricing CAT-linked securities under Merton's structural framework. In addition to deriving the values of CAT-linked securities, this approach can explicitly investigate how the (re)insurer's financial position and debt structure affect values of these securities.…”

Section: Valuation Of Catastrophe-linked Securitiesmentioning

confidence: 99%

“…Some popular CAT-linked securities include CAT insurance futures and options, CAT bonds, CAT equity puts, CAT swaps and contingent convertible CAT bonds. We follow the structural approach of Yu (2002, 2007), Lo et al (2013), and Lo et al (2020) to illustrate the framework and procedures in pricing CAT-linked securities. Among these securitized instruments, CAT bonds continue to grow and have become the most successful securitized CAT risk-transfer instrument up to now.…”

Section: Introductionmentioning

confidence: 99%

See 2 more Smart Citations

Catastrophe risk, reinsurance and securitized risk-transfer solutions: a review

Zhao

Lee

2021

CFRI

Self Cite

View full text Add to dashboard Cite

PurposeCatastrophe (CAT) events associated with natural catastrophes and man-made disasters cause profound impacts on the insurance industry. This research thus reviews the impact of CAT risk on the insurance industry and how traditional reinsurance and securitized risk-transfer instruments are used for managing CAT risk.Design/methodology/approachThis research reviews the impact of CAT risk on the insurance industry and how traditional reinsurance and securitized risk-transfer instruments are used for managing CAT risk. Apart from many negative influences, CAT events can increase the net revenue of the insurance industry around CAT events and improve insurance demand over the post-CAT periods. The underwriting cycle of reinsurance causes inefficiencies in transferring CAT risks. Securitized risk-transfer instruments resolve some inefficiencies of the reinsurance market, but are subject to moral hazard, basis risk, credit risk, regulatory uncertainty, etc. The authors introduce some popular securitized solutions and use Merton's structural framework to demonstrate how to value these CAT-linked securities. The hybrid solutions by combining reinsurance with securitized CAT instruments are expected to offer promising applications for CAT risk management.FindingsThe authors introduce some popular securitized solutions and use Merton's structural framework to demonstrate how to value these CAT-linked securities. The hybrid solutions by combining reinsurance with securitized CAT instruments are expected to offer promising applications for CAT risk management.Originality/valueThis research reviews a broad array of impacts of CAT risks on the (re)insurance industry. CAT events challenge (re)insurance capacity and influence insurers' supply decisions and reconstruction costs in the aftermath of catastrophes. While losses from natural catastrophes are the primary threat to property–casualty insurers, the mortality risk posed by influenza pandemics is a leading CAT risk for life insurers. At the same time, natural catastrophes and man-made disasters cause distinct impacts on (re)insures. Man-made disasters can increase the correlation between insurance stocks and the overall market, and natural catastrophes reduce the above correlation. It should be noted that huge CAT losses can also improve (re)insurance demand during the postevent period and thus bring long-term effects to the (re)insurance industry.

show abstract

Section: Cat Equity Put Optionsmentioning

confidence: 99%

Section: Valuation Of Catastrophe-linked Securitiesmentioning

confidence: 99%

Section: Introductionmentioning

confidence: 99%

See 1 more Smart Citation

Catastrophe risk, reinsurance and securitized risk-transfer solutions: a review

Zhao

Lee

2021

CFRI

Self Cite

View full text Add to dashboard Cite

show abstract

“…This shortcoming is particularly important for modeling a mortgage insurer's liability value, because falling house prices and rising interest rates are the precipitating factors for the catastrophic nature of MI. Following Duan et al (1995), Duan and Yu (2005), Chang et al (2012a), and Lo et al (2013), we model the mortgage insurer's total liability value as consisting of two other risk components: interest rate and housing price, which are captured by the Wiener component of the interest rate and the Wiener component and compound Poisson component of housing price processes, respectively. Hence, the liability value of the mortgage insurer is governed by the following process 9 :…”

Section: The Mortgage Insurer's Liability Processmentioning

confidence: 99%

Valuing Vulnerable Mortgage Insurance Under Capital Forbearance

Chang

2015

J Real Estate Finan Econ

Self Cite

View full text Add to dashboard Cite

This study sets up a contingent-claim framework incorporating the default risk of a mortgage insurer and the capital forbearance of regulators to value mortgage insurance (MI) contracts. We further investigate how critical policy parameters, such as capital requirements, prompt closure, and time of delay, relate to the MI premium by deriving a closed-form solution and evaluating its partial derivatives. The solutions show a negative cross effect of forbearance threshold and time delay on MI, indicating that a lower forbearance threshold and a longer period of time delay both expand their positive impacts on the price of MI. The numerical results show that an insurer's default risk premium can be substantial in the presence of a catastrophic risk in the housing price. For mortgage insurers with a lower assetliability ratio, the effect of the interest rate risk on the MI premium is more obvious and noteworthy. Moreover, the forbearance threshold effect and capital requirements effect are more significant than the time delay effect on the MI premium.

show abstract

“…Based only on CAT loss data, insurance economists employ a pure Poisson process to describe the frequency of CAT events to price CAT insurance products (e.g., Chang, Chang, and Yu, ; Lee and Yu, , ; Lo, Lee, and Yu, ). Lin, Chang, and Powers () point out that the deterministic frequency parameter of the Poisson process is inadequate for CAT events and propose a doubly stochastic Poisson process for a frequency parameter of CAT events.…”

Section: Introductionmentioning

confidence: 99%

HURRICANE RISK MANAGEMENT WITH CLIMATEAND CO₂ INDICES

Chang

Yang

2016

J of Risk & Insurance

Self Cite

View full text Add to dashboard Cite

We propose a regime-switching Poisson process incorporating climate and carbon dioxide (CO 2 ) indices (RPCM) to model hurricane frequency. Model accuracy shows that two-state RPCM (2-RPCM) is superior to the existing climate methods, as forecast errors under 2-RPCM are smaller than previous models by about 60-75 percent. We derive the pricing formula of reinsurance premiums by assuming the aggregate loss following the regime-switching compound process. Pricing errors under 2-RPCM for reinsurance premiums are 35-54 percent lower than those from previous models. The climate and regime-switching effects dominate the CO 2 effect in reducing pricing errors and producing more effective tail value at risk.Based only on CAT loss data, insurance economists employ a pure Poisson process to describe the frequency of CAT events to price CAT insurance products (e.g.

show abstract

Valuation of insurers’ contingent capital with counterparty risk and price endogeneity

Cited by 25 publications

References 30 publications

Catastrophe risk, reinsurance and securitized risk-transfer solutions: a review

Catastrophe risk, reinsurance and securitized risk-transfer solutions: a review

Valuing Vulnerable Mortgage Insurance Under Capital Forbearance

HURRICANE RISK MANAGEMENT WITH CLIMATEAND CO₂ INDICES

Contact Info

Product

Resources

About

Valuation of insurers’ contingent capital with counterparty risk and price endogeneity

Cited by 25 publications

References 30 publications

Catastrophe risk, reinsurance and securitized risk-transfer solutions: a review

Catastrophe risk, reinsurance and securitized risk-transfer solutions: a review

Valuing Vulnerable Mortgage Insurance Under Capital Forbearance

HURRICANE RISK MANAGEMENT WITH CLIMATEAND CO2 INDICES

Contact Info

Product

Resources

About

HURRICANE RISK MANAGEMENT WITH CLIMATEAND CO₂ INDICES