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Evolutionary Portfolio Selection with Liquidity Shocks

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Author Info
Enrico De Giorgi () (University of Zurich)

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Abstract

Insurance companies invest their wealth in financial markets. The wealth evolution strongly depends on the success of their investment strategies, but also on liquidity shocks which occur during unfavourable years, when indemnities to be paid to the clients exceed collected premia. An investment strategy that does not take liquidity shocks into account, exposes insurance companies to the risk of bankruptcy, when liquidity shocks and low investment payoffs jointly appear. Therefore, regulatory authorities impose solvency restrictions to ensure that insurance companies are able to face their obligations with high probability. This paper analyses the behaviour of insurance companies in an evolutionary framework. We show that an insurance company that merely satisfies regulatory constraints will eventually vanish from the market. We give a more restrictive no bankruptcy condition for the investment strategies and we characterize trading strategies that are evolutionary stable, i.e. able to drive out any mutation. We study the existence of such strategies and the conditions under which financial and insurance markets are stable.

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Publisher Info
Paper provided by Society for Computational Economics in its series Computing in Economics and Finance 2005 with number 15.

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Date of creation: 11 Nov 2005
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Handle: RePEc:sce:scecf5:15

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Web page: http://comp-econ.org/
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Related research
Keywords: insurance portfolio theory evolutionary finance.

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Find related papers by JEL classification:
G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies
D81 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Criteria for Decision-Making under Risk and Uncertainty

References listed on IDEAS
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  1. Igor Evstigneev & Thorsten Hens & Klaus Reiner Schenk-Hoppé, 2003. "Evolutionary Stable Stock Markets," Discussion Papers 03-39, University of Copenhagen. Department of Economics. [Downloadable!]
    Other versions:
  2. Leippold, Markus & Trojani, Fabio & Vanini, Paolo, 2006. "Equilibrium impact of value-at-risk regulation," Journal of Economic Dynamics and Control, Elsevier, vol. 30(8), pages 1277-1313, August. [Downloadable!] (restricted)
  3. Paul Embrechts, 1996. "Actuarial versus Financial Pricing of Insurance," Center for Financial Institutions Working Papers 96-17, Wharton School Center for Financial Institutions, University of Pennsylvania. [Downloadable!]
  4. Blume, Lawrence & Easley, David, 1992. "Evolution and market behavior," Journal of Economic Theory, Elsevier, vol. 58(1), pages 9-40, October. [Downloadable!] (restricted)
  5. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-45, November. [Downloadable!] (restricted)
  6. Igor V. Evstigneev & Thorsten Hens & Klaus Reiner Schenk-Hoppé, . "Market Selection of Financial Trading Strategies: Global Stability," IEW - Working Papers iewwp083, Institute for Empirical Research in Economics - IEW. [Downloadable!]
  7. Jun Liu & Francis A. Longstaff & Jun Pan, 2003. "Dynamic Asset Allocation with Event Risk," Journal of Finance, American Finance Association, vol. 58(1), pages 231-259, 02. [Downloadable!] (restricted)
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