Hedging through Product Design

Department: Finance

Speaker: Alexandru Barbu

Room: T015

Abstract

Insurance companies write retirement savings products with minimum return guarantees that expose them to aggregate risk and induce balance sheet fragility. We show how insurers can mitigate fragility through product design. Over the last few years, insurance companies have sold more than $200Bn in short put products, effectively buying downside risk protection from households. More fragile insurers have sold the most. We illustrate how these new product designs offset risks in traditional guarantees and highlight advantages over traditional hedging in the financial markets. We discuss implications for pricing, hedging, asset allocation, financial stability and the allocation of aggregate risk in the economy.