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Validation Of Long-Term Equity return Models For Equity-Linked Guarantees

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  • Mary Hardy
  • R. Freeland
  • Matthew Till

Abstract

A number of models have been proposed for the equity return process for equity-linked guarantees, following the introduction of stochastic modeling requirements by the Canadian Institute of Actuaries and the American Academy of Actuaries. In this paper we present some of the models that have become well known and discuss the use of residuals to test the fit. After showing that the use of the static, “actuarial approach” to risk management can result in two models with very similar likelihood and residuals giving very different capital requirements, we propose an extension of the bootstrap to compare all the models and to determine whether the optimistic or pessimistic view of the long-term left tail risk is more consistent with the data. Our context is the determination of capital requirements, so we are concerned in this work with real-world rather than riskneutral processes.

Suggested Citation

  • Mary Hardy & R. Freeland & Matthew Till, 2006. "Validation Of Long-Term Equity return Models For Equity-Linked Guarantees," North American Actuarial Journal, Taylor & Francis Journals, vol. 10(4), pages 28-47.
  • Handle: RePEc:taf:uaajxx:v:10:y:2006:i:4:p:28-47
    DOI: 10.1080/10920277.2006.10597412
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    Cited by:

    1. Chen, Lemeng & Lazrak, Skander & Wang, Yan & Welch, Robert, 2019. "Pure momentum is priced," Journal of Behavioral and Experimental Finance, Elsevier, vol. 22(C), pages 75-89.
    2. Yinghui Dong & Guojing Wang & Kam C. Yuen, 2014. "Bilateral Counterparty Risk Valuation on a CDS with a Common Shock Model," Methodology and Computing in Applied Probability, Springer, vol. 16(3), pages 643-673, September.
    3. Hwai-Chung Ho, 2022. "Forecasting the distribution of long-horizon returns with time-varying volatility," Papers 2201.07457, arXiv.org.
    4. Gan, Guojun & Lin, X. Sheldon, 2015. "Valuation of large variable annuity portfolios under nested simulation: A functional data approach," Insurance: Mathematics and Economics, Elsevier, vol. 62(C), pages 138-150.
    5. Herv'e Andr`es & Alexandre Boumezoued & Benjamin Jourdain, 2022. "Signature-based validation of real-world economic scenarios," Papers 2208.07251, arXiv.org, revised Apr 2024.

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