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

See all articles by James B. Kau

James B. Kau

University of Georgia - Department of Insurance, Legal Studies, Real Estate

Donald C. Keenan

University of Cergy-Pontoise; University of Georgia

Abstract

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

Kau, James B. and Keenan, Donald C., An Option-Theoretic Model of Catastrophes Applied to Mortgage Insurance. J. OF RISK AND INSURANCE, Vol. 63 No. 4, December 1996, Available at SSRN: https://ssrn.com/abstract=8184

James B. Kau (Contact Author)

University of Georgia - Department of Insurance, Legal Studies, Real Estate ( email )

Athens, GA 30602-6254
United States
706-542-9110 (Phone)
706-542-4295 (Fax)

Donald C. Keenan

University of Cergy-Pontoise ( email )

33 Boulevard du Port
Cergy-Pontoise Cedex, Cedex 95011
France

University of Georgia ( email )

510 Brooks Hall
Athens, GA 30602
United States
706-542-3668 (Phone)

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