Probability Updating and the Market for Directors’ and Officers’ Insurance

Abstract:     
Over the past decade, much attention has been given to the topics of corporate governance and corporate risk management. One increasingly important insurance product associated with each of these issues is directors’ and officers’ (D&O) liability insurance. Given the interconnectedness that exists between D&O insurance, corporate risk management, and corporate governance, we exploit industry-specific D&O data to explain how industries most associated with the corporate scandals of the early 2000’s adjusted demand patterns during periods of certainty and uncertainty. The rich dataset coupled with dramatic changes in the marketplace allows for the testing of insurance demand patterns and enables us to offer insight into the market’s response to a unique type of loss shock. The results of this study suggest evidence in favor of demand-side probability updating, whereby those industries most associated with the corporate scandals of the early 2000s adjusted the demand for D&O insurance during periods of greater uncertainty.

Number of Pages in PDF File: 28

Keywords: directors and officers insurance, probability updating, loss shock, rational expectations, institutional intervention

JEL Classification: G22, G34, E32

working papers series