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On the cost‐of‐capital rate under incomplete market valuation

Author

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  • Hansjörg Albrecher
  • Karl‐Theodor Eisele
  • Mogens Steffensen
  • Mario V. Wüthrich

Abstract

In this paper we discuss the concept of the cost‐of‐capital (CoC) rate for an insurance company as an equilibrium in the economic triangle of policyholders, shareholders, and the regulator. This provides a possible rationalization and an economic foundation for a quantity that is widely used in practice but whose value is typically neither technically nor economically well justified. We show how it can be well founded in such a triangular equilibrium. Under a simple one‐period model and a valuation procedure of a two‐price economy for illiquid assets we provide a corresponding economic‐theoretical quantification for the CoC rate. The resulting rates are illustrated by a number of concrete numerical examples.

Suggested Citation

  • Hansjörg Albrecher & Karl‐Theodor Eisele & Mogens Steffensen & Mario V. Wüthrich, 2022. "On the cost‐of‐capital rate under incomplete market valuation," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 89(4), pages 1139-1158, December.
    • Handle: RePEc:bla:jrinsu:v:89:y:2022:i:4:p:1139-1158
    DOI: 10.1111/jori.12406
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    References listed on IDEAS

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