Using Catastrophe-Linked Securities to Diversity Insurance Risk: A Financial Analysis of Cat Bonds
AbstractSevere natural catastrophes in the early 1990s generated a lack of financial capacity in the catastrophe line of the global reinsurance market. The finance industry reacted to this situation by issuing innovative products designed to spread the excess risk more widely among international investors (risk securitization). The paper reviews these developments and emphasizes their significance with respect to the economic theory of risk exchanges. Special attention is devoted to the case of catastrophe- linked bonds, issued by ceding insurers to secure ex post conditional capital for the payment of claims. We analyze these new securities as financial portfolios combining a straight bond and catastrophe options. Using option pricing theory and simulation analysis in a stochastic interest rate environment, we show that investors attracted by the potential for diversification benefits should not overlook the optional features when including these securities in an asset portfolio.
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Bibliographic InfoArticle provided by Western Risk and Insurance Association in its journal Journal of Insurance Issues.
Volume (Year): 22 (1999)
Issue (Month): 2 ()
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Other versions of this item:
- Louberge, H. & Kellezi, E. & Gilli, M., 1999. "Using Catastrophe-Linked Securities to Diversify Insurance Risk: a Financial Analysis of Cat Bonds," Research Papers by the Institute of Economics and Econometrics, Geneva School of Economics and Management, University of Geneva 99.04, Institut d'Economie et Econométrie, Université de Genève.
- E22 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Capital; Investment; Capacity
- G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
- G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies
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