The Effect of Risk Aversion and Loss Aversion on Equity-Linked Life Insurance With Surrender Guarantees
26 Pages Posted: 19 Apr 2016
Date Written: April 16, 2016
This paper values equity-linked life insurance contracts with surrender guarantees for risk averse and loss averse policyholders in continuous time. With increasing risk aversion, policyholders surrender their insurances for higher values of the underlying equity fund, compared to an optimally stopped insurance contract, leading to substantial losses. Moreover, high discounting amplifies suboptimal surrender behavior. Loss averse policyholders display a different surrender behavior: Such policyholders surrender only policies for which the surrender benefit represents a large gain, while holding on to less successful contracts, so that the disposition effect increases the contract value relative to a contract stopped by a risk averse policyholder.
Keywords: Equity-linked life insurance, behavioral insurance, surrender, loss aversion
JEL Classification: G11, G22
Suggested Citation: Suggested Citation