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Insurers as Asset Managers and Systemic Risk

Jotikasthira Chotibhak, Andrew Ellul, Anastasia Kartasheva, Christian Lundblad and Wolf Wagner

No 12849, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: Financial intermediaries often provide guarantees that resemble out-of-the-money put options, exposing them to tail risk. Using the U.S. life insurance industry as a laboratory, we present a model in which variable annuity (VA) guarantees and associated hedging operate within the regulatory capital framework to create incentives for insurers to overweight illiquid bonds ("reach-for-yield"). We then calibrate the model to insurer-level data, and show that the VA-writing insurers' collective allocation to illiquid bonds exacerbates system-wide fire sales in the event of negative asset shocks, plausibly erasing up to 20-70% of insurers' equity capital.

Keywords: Financial Stability; Insurance companies; Inter-connectedness; systemic risk (search for similar items in EconPapers)
JEL-codes: G11 G12 G14 G18 G22 (search for similar items in EconPapers)
New Economics Papers: this item is included in nep-ias and nep-rmg
Date: 2018-04
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