Optimal Reinsurance and Portfolio Selection: Comparison between Partial and Complete Information Models

Abstract

This paper studies how partial information for insurers can have unique information quality over complete information in a two-state regime-switching market environment. In our models, we consider a partially-informed insurer who learns time variation in expected returns across the two regimes and a completely-informed insurer who ascertains how often such regime switches happen on average. We find that the optimal reinsurance and investment strategies for the partially-informed insurer depend on prior belief, whereas those for the completely-informed insurer do not. We also find that information quality can affect the insurers' optimal behaviors mainly through the relative difference between the risk-adjusted market premium and the risk-adjusted insurance premium projected on the financial market. Numerical results indicate that partial information on the market parameters tend to lead insurers to more conservative strategies than complete information does.

Keywords: reinsurance; portfolio selection; partial information; information quality; risk- adjusted premium.

JEL Classification: G11, G12, G22