How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk
Reinsurance is often empirically hailed as a value-adding risk management strategy which an insurer can utilize to achieve various business objectives. In the context of a distortion-risk-measure-based three-party model incorporating a policyholder, insurer and reinsurer, this article formulates exp...
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| Format: | Article |
| Language: | English |
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MDPI AG
2016-12-01
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| Series: | Risks |
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| Online Access: | http://www.mdpi.com/2227-9091/4/4/48 |
| _version_ | 1818066855213924352 |
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| author | Ambrose Lo |
| author_facet | Ambrose Lo |
| author_sort | Ambrose Lo |
| collection | DOAJ |
| description | Reinsurance is often empirically hailed as a value-adding risk management strategy which an insurer can utilize to achieve various business objectives. In the context of a distortion-risk-measure-based three-party model incorporating a policyholder, insurer and reinsurer, this article formulates explicitly the optimal insurance–reinsurance strategies from the perspective of the insurer. Our analytic solutions are complemented by intuitive but scientifically rigorous explanations on the marginal cost and benefit considerations underlying the optimal insurance–reinsurance decisions. These cost-benefit discussions not only cast light on the economic motivations for an insurer to engage in insurance with the policyholder and in reinsurance with the reinsurer, but also mathematically formalize the value created by reinsurance with respect to stabilizing the loss portfolio and enlarging the underwriting capacity of an insurer. Our model also allows for the reinsurer’s failure to deliver on its promised indemnity when the regulatory capital of the reinsurer is depleted by the reinsured loss. The reduction in the benefits of reinsurance to the insurer as a result of the reinsurer’s default is quantified, and its influence on the optimal insurance–reinsurance policies analyzed. |
| first_indexed | 2024-12-10T15:14:25Z |
| format | Article |
| id | doaj.art-935a70e608f74aa2b7ae631e1ed4047c |
| institution | Directory Open Access Journal |
| issn | 2227-9091 |
| language | English |
| last_indexed | 2024-12-10T15:14:25Z |
| publishDate | 2016-12-01 |
| publisher | MDPI AG |
| record_format | Article |
| series | Risks |
| spelling | doaj.art-935a70e608f74aa2b7ae631e1ed4047c2022-12-22T01:43:50ZengMDPI AGRisks2227-90912016-12-01444810.3390/risks4040048risks4040048How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default RiskAmbrose Lo0Department of Statistics and Actuarial Science, The University of Iowa, 241 Schaeffer Hall, Iowa City, IA 52242-1409, USAReinsurance is often empirically hailed as a value-adding risk management strategy which an insurer can utilize to achieve various business objectives. In the context of a distortion-risk-measure-based three-party model incorporating a policyholder, insurer and reinsurer, this article formulates explicitly the optimal insurance–reinsurance strategies from the perspective of the insurer. Our analytic solutions are complemented by intuitive but scientifically rigorous explanations on the marginal cost and benefit considerations underlying the optimal insurance–reinsurance decisions. These cost-benefit discussions not only cast light on the economic motivations for an insurer to engage in insurance with the policyholder and in reinsurance with the reinsurer, but also mathematically formalize the value created by reinsurance with respect to stabilizing the loss portfolio and enlarging the underwriting capacity of an insurer. Our model also allows for the reinsurer’s failure to deliver on its promised indemnity when the regulatory capital of the reinsurer is depleted by the reinsured loss. The reduction in the benefits of reinsurance to the insurer as a result of the reinsurer’s default is quantified, and its influence on the optimal insurance–reinsurance policies analyzed.http://www.mdpi.com/2227-9091/4/4/48marginal costmarginal benefitdistortion1-LipschitzpremiumValue-at-RiskVaRTVaRcomonotonicitycounterparty risk |
| spellingShingle | Ambrose Lo How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk Risks marginal cost marginal benefit distortion 1-Lipschitz premium Value-at-Risk VaR TVaR comonotonicity counterparty risk |
| title | How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk |
| title_full | How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk |
| title_fullStr | How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk |
| title_full_unstemmed | How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk |
| title_short | How Does Reinsurance Create Value to an Insurer? A Cost-Benefit Analysis Incorporating Default Risk |
| title_sort | how does reinsurance create value to an insurer a cost benefit analysis incorporating default risk |
| topic | marginal cost marginal benefit distortion 1-Lipschitz premium Value-at-Risk VaR TVaR comonotonicity counterparty risk |
| url | http://www.mdpi.com/2227-9091/4/4/48 |
| work_keys_str_mv | AT ambroselo howdoesreinsurancecreatevaluetoaninsureracostbenefitanalysisincorporatingdefaultrisk |