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Pricing Multi-Event-Triggered Catastrophe Bonds Based on a Copula–POT Model

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  • Yifan Tang

    (Academy of Pharmacy, Xi’an Jiaotong-Liverpool University, Suzhou 215123, China
    Department of Mathematical Sciences, University of Liverpool, Liverpool L69 3BX, UK)

  • Conghua Wen

    (Department of Financial and Actuarial Mathematics, Xi’an Jiaotong-Liverpool University, Suzhou 215123, China)

  • Chengxiu Ling

    (Academy of Pharmacy, Xi’an Jiaotong-Liverpool University, Suzhou 215123, China)

  • Yuqing Zhang

    (Academy of Pharmacy, Xi’an Jiaotong-Liverpool University, Suzhou 215123, China)

Abstract

The constantly expanding losses caused by frequent natural disasters pose many challenges to the traditional catastrophe insurance market. The purpose of this paper is to develop an innovative and systemic trigger mechanism for pricing catastrophic bonds triggered by multiple events with an extreme dependence structure. Due to the bond’s low cashflow contingencies and the CAT bond’s high return, the multiple-event CAT bond may successfully transfer the catastrophe risk to the huge financial markets to meet the diversification of capital allocations for most potential investors. The designed hybrid trigger mechanism helps reduce the moral hazard and increase the bond’s attractiveness with a lower trigger likelihood, displaying the determinants of the wiped-off coupon and principal by both the magnitude and intensity of the natural disaster events involved. As the trigger indicators resulting from the potential catastrophic disaster might be associated with heavy-tailed margins, nested Archimedean copulas are introduced with marginal distributions modeled by a POT-GP distribution for excess data and common parametric models for moderate risks. To illustrate our theoretical pricing framework, we conduct an empirical analysis of pricing a three-event rainstorm CAT bond based on the resulting losses due to rainstorms in China during 2006–2020. Monte Carlo simulations are carried out to analyze the sensitivity of the rainstorm CAT bond price in trigger attachment levels, maturity date, catastrophe intensity, and numbers of trigger indicators.

Suggested Citation

  • Yifan Tang & Conghua Wen & Chengxiu Ling & Yuqing Zhang, 2023. "Pricing Multi-Event-Triggered Catastrophe Bonds Based on a Copula–POT Model," Risks, MDPI, vol. 11(8), pages 1-19, August.
    • Handle: RePEc:gam:jrisks:v:11:y:2023:i:8:p:151-:d:1219576
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    References listed on IDEAS

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    1. Junfei Chen & Guiyun Liu & Liu Yang & Quanxi Shao & Huimin Wang, 2013. "Pricing and Simulation for Extreme Flood Catastrophe Bonds," Water Resources Management: An International Journal, Published for the European Water Resources Association (EWRA), Springer;European Water Resources Association (EWRA), vol. 27(10), pages 3713-3725, August.
    2. Riza Andrian Ibrahim & Sukono & Herlina Napitupulu, 2022. "Multiple-Trigger Catastrophe Bond Pricing Model and Its Simulation Using Numerical Methods," Mathematics, MDPI, vol. 10(9), pages 1-17, April.
    3. Anantapadmanabhan, C. S., 1971. "Some statistical aspects of catastrophic risks," ASTIN Bulletin, Cambridge University Press, vol. 5(3), pages 307-313, February.
    4. Samuel Cox & Hal Pedersen, 2000. "Catastrophe Risk Bonds," North American Actuarial Journal, Taylor & Francis Journals, vol. 4(4), pages 56-82.
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