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Derivatives trading for insurers

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  • Xue, Xiaole
  • Wei, Pengyu
  • Weng, Chengguo

Abstract

We investigate optimal strategies for a constant absolute risk aversion (CARA) insurer to manage its business risk through not only equity investment and proportional reinsurance but also trading derivatives of the equity. We obtain the optimal strategies in closed-form and quantify the value of derivatives trading by means of certainty-equivalence. Some numerical examples and sensitivity analysis are presented to illustrate our theoretical results. Our numerical results show that, unlike standard CRRA investors, the gain from trading derivatives to a CARA insurer is small and the insurer needs to expose itself to a relatively large position to fully enjoy the gain.

Suggested Citation

  • Xue, Xiaole & Wei, Pengyu & Weng, Chengguo, 2019. "Derivatives trading for insurers," Insurance: Mathematics and Economics, Elsevier, vol. 84(C), pages 40-53.
    • Handle: RePEc:eee:insuma:v:84:y:2019:i:c:p:40-53
    DOI: 10.1016/j.insmatheco.2018.11.001
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    More about this item

    Keywords

    Derivatives trading; HJB equations; Investment–reinsurance; Stochastic control; Stochastic volatility;
    All these keywords.

    JEL classification:

    • C61 - Mathematical and Quantitative Methods - - Mathematical Methods; Programming Models; Mathematical and Simulation Modeling - - - Optimization Techniques; Programming Models; Dynamic Analysis
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • G22 - Financial Economics - - Financial Institutions and Services - - - Insurance; Insurance Companies; Actuarial Studies

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