Equity-Linked Life Insurances on Maximum of Several Assets

TL;DR

This paper develops a Bayesian Markov-Switching VAR model to price and hedge equity-linked life insurance products based on multiple assets, incorporating economic variables and regime changes for improved accuracy.

Contribution

It introduces a novel Bayesian MS-VAR framework for equity-linked insurance pricing that accounts for economic regimes and simplifies previous models.

Findings

Derived joint distribution of variables and lifetime under risk-neutral measure

Calculated net premiums and hedging formulas for products

Model depends on economic variables and is less complex

Abstract

Economic variables play important roles in any economic model, and sudden and dramatic changes exist in the financial market and economy. For this reason, to price and hedge equity-linked life insurance products, including segregated funds and unit-linked life insurance products on maximum price of several assets, this paper introduces Bayesian Markov-Switching Vector Autoregressive (MS-VAR) process. By assuming that a regime-switching process is generated by a homogeneous Markov process and a residual process follows a heteroscedastic model, we obtain joint distribution of endogenous variables and insured's future lifetime random variable under risk-neutral probability probability measure. Using the distribution function, we obtain net single premiums and hedging formulas of the equity-linked life insurance products. An advantage of our model is it depends on economic variables and is not complicated as compared to previous papers.