An Option-Theoretic Model of Catastrophes Applied to Mortgage Insurance
J. OF RISK AND INSURANCE, Vol. 63 No. 4, December 1996
Posted: 13 Mar 1997
This article introduces catastrophic events into an option pricing model of mortgage insurance by incorporating a Poisson distribution into the building process, thus modifying the usual lognormal form to a new jump-diffusion form. The catastrophic events can be purely financial or may be physical destruction driven by nature. The effectiveness of the model is demonstrated by measuring the impact on insurance prices of changes in the chance of a catastrophe and the amount of damage that occurs. The model is also able to ascertain the impact on mortgage insurance of government disaster relief programs provided against catastrophic events.
JEL Classification: G13, G22
Suggested Citation: Suggested Citation