Ambiguity Aversion: A New Perspective on Insurance Pricing

Lin Zhao and Wei Zhu

ASTIN Bulletin, 2011, vol. 41, issue 1, 157-189

Abstract: This paper intends to develop a feasible framework which incorporates ambiguity aversion into the pricing of insurance products and investigate the implications of ambiguity aversion on the pricing by comparing it with risk aversion. As applications of the framework, we present the closed-form pricing formulae for some insurance products appearing in life insurance and property insurance. Our model confirms that the effects of ambiguity aversion on the pricing of insurance do differ from those of risk aversion. Implications of our model are consistent with some empirical evidences documented in the literature. Our results suggest that taking advantage of natural hedge mechanism can help us control the effects of model uncertainty.

Date: 2011
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