City Research Online

Market value margin via mean-variance hedging

Tsanakas, A., Wuethrich, M. V. and Černý, A. (2013). Market value margin via mean-variance hedging. ASTIN Bulletin, 43(3), pp. 301-322. doi: 10.1017/asb.2013.18

Abstract

We use mean–variance hedging in discrete time in order to value an insurance liability. The prediction of the insurance liability is decomposed into claims development results, that is, yearly deteriorations in its conditional expected values until the liability is finally settled. We assume the existence of a tradeable derivative with binary pay-off written on the claims development result and available in each development period. General valuation formulas are stated and, under additional assumptions, these valuation formulas simplify to resemble familiar regulatory cost-of-capital-based formulas. However, adoption of the mean–variance framework improves upon the regulatory approach by allowing for potential calibration to observed market prices, inclusion of other tradeable assets, and consistent extension to multiple periods. Furthermore, it is shown that the hedging strategy can also lead to increased capital efficiency.

Publication Type: Article
Additional Information: Copyright Cambridge University Press 2013. This version may have been revised following peer review but may be subject to further editorial input by Cambridge University Press.
Publisher Keywords: Market value margin; mean–variance hedging; market consistent valuation; cost-of-capital; Solvency II
Subjects: H Social Sciences > HF Commerce
Departments: Cass Business School > Actuarial Science & Insurance
Related URLs:
URI: http://openaccess.city.ac.uk/id/eprint/5981
[img]
Preview
PDF - Accepted Version
Download (222kB) | Preview

Export

Downloads

Downloads per month over past year

View more statistics

Actions (login required)

Admin Login Admin Login