Risks

[ingvar]

Could someone please help me on this one:

there was a study note that non-diversifiable risks could be
hedged/reinsured
mitigated through decrease sales
changed in policy features

i was wondering if hedgeable risk same as non-diversifiable risk? if not, what's the difference?

[Bballry1234]

Originally Posted by ingvar

Could someone please help me on this one:

there was a study note that non-diversifiable risks could be
hedged/reinsured
mitigated through decrease sales
changed in policy features

i was wondering if hedgeable risk same as non-diversifiable risk? if not, what's the difference?

I think you're comparing apples and oranges (someone else please chime in (I also proposed another question below in bold))

A non diversifiable risk is a risk that can't be predicted more accurately by increasing sample size, such as interest rates. So, sales levels, reinsurance and policy features can all help control them. A diversifiable risk is a risk that can be predicted more accurately by increasing sample size, such as mortality.

A hedgeable risk is a risk that can be easily transferred to a counterparty. A nonhedgable risk is a risk that cannot be easily transferred to a counterparty. Given these definitions and thinking back to the ERC reading, I don't know why mortality is considered a nonhedgable risk (because of YRT reinsurance) [Does hedgeable exclusively mean a traded option, like a derivative?]

[ingvar]

Originally Posted by Bballry1234

I think you're comparing apples and oranges (someone else please chime in (I also proposed another question below in bold))

A non diversifiable risk is a risk that can't be predicted more accurately by increasing sample size, such as interest rates. So, sales levels, reinsurance and policy features can all help control them. A diversifiable risk is a risk that can be predicted more accurately by increasing sample size, such as mortality.

A hedgeable risk is a risk that can be easily transferred to a counterparty. A nonhedgable risk is a risk that cannot be easily transferred to a counterparty. Given these definitions and thinking back to the ERC reading, I don't know why mortality is considered a nonhedgable risk (because of YRT reinsurance) [Does hedgeable exclusively mean a traded option, like a derivative?]

Thank you! This makes sense.

To answer your question mortality is considered non-hedgeable risk since there is no liquid market for mortality risk.

[2pac Shakur]

Originally Posted by ingvar

Thank you! This makes sense.

To answer your question mortality is considered non-hedgeable risk since there is no liquid market for mortality risk.

Life Insurance/Life Annuities is a hedge no?

[2pac Shakur]

Originally Posted by Bballry1234

I think you're comparing apples and oranges (someone else please chime in (I also proposed another question below in bold))

A non diversifiable risk is a risk that can't be predicted more accurately by increasing sample size, such as interest rates. So, sales levels, reinsurance and policy features can all help control them. A diversifiable risk is a risk that can be predicted more accurately by increasing sample size, such as mortality.

A hedgeable risk is a risk that can be easily transferred to a counterparty. A nonhedgable risk is a risk that cannot be easily transferred to a counterparty. Given these definitions and thinking back to the ERC reading, I don't know why mortality is considered a nonhedgable risk (because of YRT reinsurance) [Does hedgeable exclusively mean a traded option, like a derivative?]

I think of it as diversify = adding diversity. With mortality, you add tons of lives and you'll get a mixture of longevity = diversity. With something like an equity-linked guarantee, you can add a bunch of policies, but that's not giving anymore "diversity". You're just gonna have a ton of policies with a bunch of claims at the same point in time - down market. This is something you need to hedge.

And to answer your question - if mortality is considered non-hedgeable (which I saw on one of the study notes) - I would think the operable definition of hedgeable is indeed traded option. Either that or the authors of the study notes forgot that life insurance and life annuities are a hedge. Which would be surprising.

[Olrich]

Opposite of intuition, "non-hedgeable risk" in this context does not mean that the risk cannot be hedged. The exact definition probably varies some by reporting basis, but for MCEV in particular it refers to risks without a financial market, or a financial market that is not sufficiently deep and liquid (I think YRT would probably fall into this category).

The idea is that you can't go out an buy a financial instrument to hedge the risk, and if you do enter into a hedging arrangement (e.g. YRT), there aren't observable market prices or a liquid market.

[Bballry1234]

Originally Posted by Olrich

Opposite of intuition, "non-hedgeable risk" in this context does not mean that the risk cannot be hedged. The exact definition probably varies some by reporting basis, but for MCEV in particular it refers to risks without a financial market, or a financial market that is not sufficiently deep and liquid (I think YRT would probably fall into this category).

The idea is that you can't go out an buy a financial instrument to hedge the risk, and if you do enter into a hedging arrangement (e.g. YRT), there aren't observable market prices or a liquid market.

Great insight. This was really helpful. Thanks!