Ambiguity and insurance: robust capital requirements and premiums
Many insurance and reinsurance contracts are contingent on events such ashurricanes, terrorist attacks or political upheavals whose probabilities are not known with precision. There is a body of experimental evidence showing thathigher premiums are charged for these ï¿½ambiguousï¿½ contracts, which may in turn inhibit (re)insurance transactions, but little research analysing explicitlyhow and why premiums are loaded in this way. In this paper we model the effect of ambiguity on the capital requirement of a (re)insurer whose objectives are profit maximisation and robustness. The latter objective means that it musthold enough capital to meet a survival constraint across a range of availableestimates of the probability of ruin. We provide characterisations of when onebook of insurance is more ambiguous than another and formally explore thecircumstances in which a more ambiguous book requires at least as large acapital holding. This analysis allows us to derive several explicit formulae forthe price of ambiguous insurance contracts, each of which identifies the extraambiguity load.
|Date of creation:||Nov 2012|
|Contact details of provider:|| Postal: Houghton Street, London WC2A 2AE|
Phone: +44 (020) 7405 7686
Web page: http://www.lse.ac.uk/grantham.
More information through EDIRC
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.:
- Kunreuther, Howard & Hogarth, Robin & Meszaros, Jacqueline, 1993. "Insurer Ambiguity and Maarket Failure," Journal of Risk and Uncertainty, Springer, vol. 7(1), pages 71-87, August.
- Fabio Maccheroni & Massimo Marinacci & Doriana Ruffino, 2013.
"Alpha as Ambiguity: Robust Mean‐Variance Portfolio Analysis,"
Econometric Society, vol. 81(3), pages 1075-1113, 05.
- Fabio Maccheroni & Massimo Marinacci & Doriana Ruffino, 2010. "Alpha as Ambiguity: Robust Mean-Variance Portfolio Analysis," Working Papers 373, IGIER (Innocenzo Gasparini Institute for Economic Research), Bocconi University.
- Zhu, Wenge, 2011. "Ambiguity aversion and an intertemporal equilibrium model of catastrophe-linked securities pricing," Insurance: Mathematics and Economics, Elsevier, vol. 49(1), pages 38-46, July.
- Kunreuther, Howard & Meszaros, Jacqueline & Hogarth, Robin M. & Spranca, Mark, 1995. "Ambiguity and underwriter decision processes," Journal of Economic Behavior & Organization, Elsevier, vol. 26(3), pages 337-352, May.
- Gilboa, Itzhak & Schmeidler, David, 1989. "Maxmin expected utility with non-unique prior," Journal of Mathematical Economics, Elsevier, vol. 18(2), pages 141-153, April.
- Itzhak Gilboa & David Schmeidler, 1989. "Maxmin Expected Utility with Non-Unique Prior," Post-Print hal-00753237, HAL.
- Lorenzo Garlappi & Raman Uppal & Tan Wang, 2007. "Portfolio Selection with Parameter and Model Uncertainty: A Multi-Prior Approach," Review of Financial Studies, Society for Financial Studies, vol. 20(1), pages 41-81, January.
- Raman Uppal & Lorenzo Garlappi & Tan Wang, 2004. "Portfolio Selection with Parameter and Model Uncertainty: A Multi-Prior Approach," Money Macro and Finance (MMF) Research Group Conference 2004 54, Money Macro and Finance Research Group.
- Garlappi, Lorenzo & Uppal, Raman & Wang, Tan, 2005. "Portfolio Selection with Parameter and Model Uncertainty: A Multi-Prior Approach," CEPR Discussion Papers 5041, C.E.P.R. Discussion Papers.
- Garlappi, Lorenzo & Uppal, Raman & Wang, Tan, 2005. "Portfolio Selection with Parameter and Model Uncertainty: A Multi-Prior Approach," CEPR Discussion Papers 5148, C.E.P.R. Discussion Papers.
- Peter Klibanoff & Massimo Marinacci & Sujoy Mukerji, 2005. "A Smooth Model of Decision Making under Ambiguity," Econometrica, Econometric Society, vol. 73(6), pages 1849-1892, November.
- Peter Klibanoff & Massimo Marinacci & Sujoy Mukerji, 2002. "A smooth model of decision making under ambiguity," ICER Working Papers - Applied Mathematics Series 11-2003, ICER - International Centre for Economic Research, revised Apr 2003.
- Sujoy Mukerji & Peter Klibanoff, 2002. "A Smooth Model of Decision,Making Under Ambiguity," Economics Series Working Papers 113, University of Oxford, Department of Economics.
- Thomas J. Sargent & LarsPeter Hansen, 2001. "Robust Control and Model Uncertainty," American Economic Review, American Economic Association, vol. 91(2), pages 60-66, May.
- Hogarth, Robin M & Kunreuther, Howard, 1989. "Risk, Ambiguity, and Insurance," Journal of Risk and Uncertainty, Springer, vol. 2(1), pages 5-35, April.
- Kunreuther, Howard C. & Michel-Kerjan, Erwann O., 2011. "At War with the Weather: Managing Large-Scale Risks in a New Era of Catastrophes," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262516543.
- Howard C. Kunreuther & Erwann O. Michel-Kerjan, 2009. "At War with the Weather: Managing Large-Scale Risks in a New Era of Catastrophes," MIT Press Books, The MIT Press, edition 1, volume 1, number 0262012820, July.
When requesting a correction, please mention this item's handle: RePEc:lsg:lsgwps:wp97. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (The GRI Administration)
If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.
If references are entirely missing, you can add them using this form.
If the full references list an item that is present in RePEc, but the system did not link to it, you can help with this form.
If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your profile, as there may be some citations waiting for confirmation.
Please note that corrections may take a couple of weeks to filter through the various RePEc services.