Article

The Fluctuations of Insurers’ Risk Appetite

Elisa Luciano, and Jean-Charles Rochet

Abstract

The risk appetite of insurance companies fluctuates over time in a quasi cyclical fashion. When their capitalization is high (low), companies choose portfolios with a high (small) share of risky assets. We show that this phenomenon has the same source as the underwriting cycle, namely recapitalization costs. We build a dynamic stochastic general equilibrium model of the insurance sector where financial frictions prevent companies from maintaining a target leverage. Portfolio decisions of insurers fluctuate with their aggregate capitalization. The model rationalizes two apparently disjoint pieces of evidence: long-standing empirical evidence on underwriting cycles and more recent evidence on the fluctuations of insurance companies’ risk appetite.

JEL codes

  • G11: Portfolio Choice • Investment Decisions
  • G12: Asset Pricing • Trading Volume • Bond Interest Rates
  • G23: Non-bank Financial Institutions • Financial Instruments • Institutional Investors

Reference

Elisa Luciano, and Jean-Charles Rochet, The Fluctuations of Insurers’ Risk Appetite, Journal of Economic Dynamics and Control, vol. 144, 2022, p. 104543.

Published in

Journal of Economic Dynamics and Control, vol. 144, 2022, p. 104543