An Asian Option Approach to the Valuation of Insurance Futures Contracts
WFIC Paper 94-03
Posted: 22 Aug 1998
The insurance futures contracts introduced in December 1992 by the Chicago Board of Trade offer insurers an alternative to reinsurance as a hedging device for underwriting risk. These instruments have the usual features of liquidity, anonymity and low transactions costs that characterize futures contracts. This paper addresses the issue of pricing insurance futures contracts in an arbitrage-free framework as the expectation under the risk-neutral probability measure of the terminal cash flow provided, for instance, by a long position in a futures contract. Since by definition of the contract the terminal cash flow is related to the aggregate claims incurred during a calendar quarter, the valuation problem is of the same type as the one that arises in the pricing of zero-exercise price Asian options. We propose a solution to this problem using the exact approach developed by Geman and Yor (1992, 1993).
JEL Classification: G13
Suggested Citation: Suggested Citation