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Derivatives and corporate risk management: participation and volume decisions in the insurance industry Author info | Abstract | Publisher info | Download info | Related research | Statistics J. David Cummins
Richard D. Phillips
Stephen D. Smith
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In this paper we formulate and test a number of hypotheses regarding insurer participation and volume decisions in derivatives markets. Several specific hypotheses are supported by our analysis. We find evidence consistent with the idea that insurers are motivated to use financial derivatives to hedge the costs of financial distress, interest rate, liquidity, and exchange rate risks. We also find some evidence that insurers use these instruments to hedge embedded options and manage their tax bills. We also find evidence of significant economies of scale in the use of derivatives. Interestingly, we often find that the predetermined variables we employ display opposite signs in the participation and volume regressions. We argue that this result is broadly consistent with the hypothesis that there is also a per unit premium associated with hedging and that, conditional on having risk exposures large enough to warrant participation, firms with a larger appetite for risk will be less willing than average to pay this marginal cost.
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Paper provided by Federal Reserve Bank of Atlanta in its series Working Paper with number
97-12.
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Date of creation: 1997Date of revision:
Handle: RePEc:fip:fedawp:97-12Contact details of provider: Postal: 1000 Peachtree St., N.E., Atlanta, Georgia 30309 Phone: 404-521-8500 Email: Web page: http://www.frbatlanta.org/ More information through EDIRC
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Keywords: Corporations - Finance ; Derivative securities ; Financial services industry ; Business enterprises ; Other versions of this item:
References listed on IDEAS Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile , click on "citations" and make appropriate adjustments.: Froot, Kenneth A & Scharfstein, David S & Stein, Jeremy C, 1993.
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"Capital and risk in property-liability insurance markets ,"
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J. David Cummins & Mary A. Weiss, 1991.
"The structure, conduct, and regulation of the property-liability insurance industry ,"
Conference Series ; [Proceedings] ,
Federal Reserve Bank of Boston, pages 117-164.
[Downloadable!]
J. David Cummins & Scott E. Harrington & Robert Klein, 1995.
"nsolvency Experience, Risk-Based Capital, and Prompt Corrective Action in Property-Liability Insurance ,"
Center for Financial Institutions Working Papers
95-06, Wharton School Center for Financial Institutions, University of Pennsylvania.
[Downloadable!]
Elijah Brewer & William E. Jackson & James T. Moser, 1996.
"Alligators in the swamp: the impact of derivatives on the financial performance of depository institutions ,"
Proceedings ,
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Other versions:
Elijah Brewer, III & William E. Jackson, III & James T. Moser, 1996.
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Working Paper Series, Issues in Financial Regulation
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Venkatachalam, Mohan, 1996.
"Value-relevance of banks' derivatives disclosures ,"
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Cummins, J. David & Grace, Elizabeth, 1994.
"Tax management and investment strategies of property-liability insurers ,"
Journal of Banking & Finance ,
Elsevier, vol. 18(1), pages 43-72, January.
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Cummins, J. David & Harrington, Scott E. & Klein, Robert, 1995.
"Insolvency experience, risk-based capital, and prompt corrective action in property-liability insurance ,"
Journal of Banking & Finance ,
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David F. Babbel & Anthony M. Santomero, 1997.
"Risk Management by Insurers: An Analysis of the Process ,"
Center for Financial Institutions Working Papers
96-16, Wharton School Center for Financial Institutions, University of Pennsylvania.
[Downloadable!]
J. David Cummins & Richard D. Phillips & Stephen D. Smith, 1996.
"Corporate hedging in the insurance industry: the use of financial derivatives by U.S. insurers ,"
Working Paper
96-19, Federal Reserve Bank of Atlanta.
[Downloadable!]
Other versions: Stulz, ReneM., 1990.
"Managerial discretion and optimal financing policies ,"
Journal of Financial Economics ,
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DeMarzo, Peter M & Duffie, Darrell, 1995.
"Corporate Incentives for Hedging and Hedge Accounting ,"
Review of Financial Studies ,
Oxford University Press for Society for Financial Studies, vol. 8(3), pages 743-71.
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Mian, Shehzad L., 1996.
"Evidence on Corporate Hedging Policy ,"
Journal of Financial and Quantitative Analysis ,
Cambridge University Press, vol. 31(03), pages 419-439, September.
[Downloadable!]
Catherine Schrand & Haluk Unal, 1998.
"Hedging and Coordinated Risk Management: Evidence from Thrift Conversions ,"
Journal of Finance ,
American Finance Association, vol. 53(3), pages 979-1013, 06.
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Cragg, John G, 1971.
"Some Statistical Models for Limited Dependent Variables with Application to the Demand for Durable Goods ,"
Econometrica ,
Econometric Society, vol. 39(5), pages 829-44, September.
[Downloadable!] (restricted)
Mayers, David & Smith, Clifford W, Jr, 1990.
"On the Corporate Demand for Insurance: Evidence from the Reinsurance Market ,"
Journal of Business ,
University of Chicago Press, vol. 63(1), pages 19-40, January.
[Downloadable!] (restricted)
Elijah Brewer, III & Bernadette A. Minton & James T. Moser, 1996.
"Interest-rate derivatives and bank lending ,"
Working Paper Series, Macroeconomic Issues
WP-96-13, Federal Reserve Bank of Chicago.
Other versions: Gregor Andrade & Steven N. Kaplan, 1998.
"How Costly is Financial (Not Economic) Distress? Evidence from Highly Leveraged Transactions that Became Distressed ,"
Journal of Finance ,
American Finance Association, vol. 53(5), pages 1443-1493, October.
[Downloadable!] (restricted)
Other versions: Tufano, Peter, 1996.
" Who Manages Risk? An Empirical Examination of Risk Management Practices in the Gold Mining Industry ,"
Journal of Finance ,
American Finance Association, vol. 51(4), pages 1097-1137, September.
[Downloadable!] (restricted)
Myers, Stewart C., 1977.
"Determinants of corporate borrowing ,"
Journal of Financial Economics ,
Elsevier, vol. 5(2), pages 147-175, November.
[Downloadable!] (restricted)
Full
references Cited by : (explanations , Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile , click on "citations" and make appropriate adjustments.)
J. David Cummins & Georges Dionne & Robert Gagné & Abdelhakim Nouira, 2006.
"Efficiency of Insurance Firms with Endogenous Risk Management and Financial Intermediation Activities ,"
Cahiers de recherche
06-06, HEC Montréal, Institut d'économie appliquée.
[Downloadable!]
Other versions: Kenneth A. Froot, 2003.
"Risk Management, Capital Budgeting and Capital Structure Policy for Insurers and Reinsurers ,"
NBER Working Papers
10184, National Bureau of Economic Research, Inc.
[Downloadable!] (restricted)
Benjamin Lorent, 2008.
"Raisons Fondamentales d’une Régulation Prudentielle du Secteur des Assurances ,"
Working Papers CEB
08-020.RS, Université Libre de Bruxelles, Solvay Brussels School of Economics and Management, Centre Emile Bernheim (CEB).
[Downloadable!]
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