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Evaluation of equity-linked products in the presence of policyholder surrender option using risk-control strategies

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  • Gaillardetz, Patrice
  • Hachem, Saeb
  • Moghtadai, Mehran

Abstract

Throughout the past couple of decades, the surge in the sale of equity-linked products has led to many discussions on the evaluation and risk management of surrender options embedded in these products. However, most studies treat such options as American/Bermudian style options. In this article, a different approach is presented where only a portion of the policyholders react optimally due to the belief that not all policyholders are rational. Through this method, a probability of surrender is obtained based on the option moneyness and the product is partially hedged using local risk-control strategies. This partial hedging approach is versatile since few assumptions are required for the financial framework. To compare the different surrender assumptions, the initial capital requirement for an equity-linked product is obtained under a regime-switching equity model. Numerical examples illustrate the dynamics and efficiency of this hedging approach.

Suggested Citation

  • Gaillardetz, Patrice & Hachem, Saeb & Moghtadai, Mehran, 2022. "Evaluation of equity-linked products in the presence of policyholder surrender option using risk-control strategies," Annals of Actuarial Science, Cambridge University Press, vol. 16(1), pages 25-41, March.
    • Handle: RePEc:cup:anacsi:v:16:y:2022:i:1:p:25-41_3
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