The Pricing of Mortgage Insurance Premiums under Systematic and Idiosyncratic Shocks

Journal of Risk and Insurance, Forthcoming

36 Pages Posted: 15 Dec 2012 Last revised: 20 May 2015

See all articles by Ming Pu

Ming Pu

Southwestern University of Finance and Economics (SWUFE) - Research Institute of Economics & Management

Gang-Zhi Fan

Beijing Normal University-Hong Kong Baptist University United International College

Chunsheng Ban

The Ohio State University - Department of Mathematics

Date Written: February 1, 2014

Abstract

The recent financial crisis has posed new challenges to the pricing issue of mortgage insurance premiums. By extending an option-based approach to this pricing issue, we attempt to tackle several key challenges including the clustering of mortgage defaults, the diversification effect of underlying property pools and mortgage insurers’ information advantages. Our model partitions the volatility of collateralized property prices into idiosyncratic volatility and systematic volatility so that we can conduct an in-depth investigation on the effects of these two categories of shocks. Our results demonstrate that although the rising number of pooled mortgage loans can reduce the volatility of average default losses, the increasing correlation between the collateralized properties can lead to the volatility clustering of these losses.

Keywords: mortgage insurance, default loss, default clustering, systematic shocks, portfolio diversification

JEL Classification: G21, G22

Suggested Citation

Pu, Ming and Fan, Gang-Zhi and Ban, Chunsheng, The Pricing of Mortgage Insurance Premiums under Systematic and Idiosyncratic Shocks (February 1, 2014). Journal of Risk and Insurance, Forthcoming , Available at SSRN: https://ssrn.com/abstract=2187665 or http://dx.doi.org/10.2139/ssrn.2187665

Ming Pu

Southwestern University of Finance and Economics (SWUFE) - Research Institute of Economics & Management ( email )

55 Guanghuacun Street
Chengdu, Sichuan 610074
China

Gang-Zhi Fan (Contact Author)

Beijing Normal University-Hong Kong Baptist University United International College ( email )

2000 Jintong Road
Zhuhai, Guangdong 519087
China

Chunsheng Ban

The Ohio State University - Department of Mathematics ( email )

100 Math Tower
231 West 18th Avenue
Columbus, OH 43210
United States
6142925331 (Phone)

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