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Global Loss Diversification in the Insurance Sector

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  • Oleg Sheremet

    ()
    (VU University Amsterdam)

  • Andr� Lucas

    ()
    (VU University Amsterdam)

Abstract

We study the possibility for international diversification of catastrophe risk by the insurance sector. Adopting the argument that large insurance losses may be a `globalizing factor' for the industry, we study the dependence of geographically distant insurance markets via equity returns. In particular, we employ conditional copula theory to model the bivariate dependence of the insurance industry. In contrast to earlier literature on this subject, we disentangle the causes of dependence stemming from the asset side from those from the liability side by conditioning on general market conditions. We find that for both Europe--America and Europe--Asia the dependence is significant. Moreover, we find asymmetric effects: the international dependence is particularly high for losses, even after conditioning for the asset side dependence. Finally, we investigate the time variation in copula parameters and find evidence that dependence in the insurance sector has increased over time, thus reducing the scope for international diversification of large losses in this sector.

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Bibliographic Info

Paper provided by Tinbergen Institute in its series Tinbergen Institute Discussion Papers with number 08-086/2.

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Date of creation: 15 Sep 2008
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Handle: RePEc:dgr:uvatin:20080086

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Web page: http://www.tinbergen.nl

Related research

Keywords: Catastrophic insurance losses; Copula and dependence; Diversification;

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  1. Froot, Kenneth A. & O'Connell, Paul G.J., 2008. "On the pricing of intermediated risks: Theory and application to catastrophe reinsurance," Journal of Banking & Finance, Elsevier, vol. 32(1), pages 69-85, January.
  2. Geluk, J.L. & De Vries, C.G., 2006. "Weighted sums of subexponential random variables and asymptotic dependence between returns on reinsurance equities," Insurance: Mathematics and Economics, Elsevier, vol. 38(1), pages 39-56, February.
  3. Elijah Brewer, III & William E. Jackson, III, 2002. "Inter-industry contagion and the competitive effects of financial distress announcements: evidence from commercial banks and life insurance companies," Working Paper Series WP-02-23, Federal Reserve Bank of Chicago.
  4. Cummins, J. David & Lewis, Christopher M. & Wei, Ran, 2006. "The market value impact of operational loss events for US banks and insurers," Journal of Banking & Finance, Elsevier, vol. 30(10), pages 2605-2634, October.
  5. Hansen, Bruce E, 1994. "Autoregressive Conditional Density Estimation," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 35(3), pages 705-30, August.
  6. Laurent, Sebastien & Peters, Jean-Philippe, 2002. " G@RCH 2.2: An Ox Package for Estimating and Forecasting Various ARCH Models," Journal of Economic Surveys, Wiley Blackwell, vol. 16(3), pages 447-85, July.
  7. Andrew Patton, 2004. "Modelling Asymmetric Exchange Rate Dependence," Working Papers wp04-04, Warwick Business School, Finance Group.
  8. François Longin, 2001. "Extreme Correlation of International Equity Markets," Journal of Finance, American Finance Association, vol. 56(2), pages 649-676, 04.
  9. Kenneth A. Froot, 2001. "The Market for Catastrophe Risk: A Clinical Examination," NBER Working Papers 8110, National Bureau of Economic Research, Inc.
  10. Jan Frederik Slijkerman, 2006. "Insurance Sector Risk," Tinbergen Institute Discussion Papers 06-062/2, Tinbergen Institute.
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