Fundamental Aspects of Operational Risk and Insurance Analytics: A Handbook of Operational Risk

Chapter SeventeenInsurance and Risk Transfer: Products and Modeling

In this chapter, we address the following components of OpRisk insurance modeling:

1. What is the incentive and motivation for undertaking risk transfer?
2. What types of insurance products can one consider in the OpRisk setting and how might they apply to the LDA model structure?
3. What types of models can one develop for understanding analytically the impact of insurance in OpRisk settings?
4. What impact does each of the different insurance policies have on capital estimation (risk measures)?

In discussing these questions, we provide a detailed introduction to the basic properties of insurance products, structuring, and modeling. We detail what types of losses are insurable in a classical sense and then set the tone for the more advanced aspects in Chapter 18, which deals with catastrophe bonds and bespoke insurance products. We discuss the important aspects of insurance product structuring such as moral hazard and how this may influence OpRisk modeling and applications. After these basic definitions, the majority of this chapter deals with aspects of single peril insurance product structures with deterministic and stochastic features, followed by a detailed analysis of how one may construct quantitative LDA models incorporating such insurance properties.

17.1 Motivation for Insurance and Risk Transfer in OpRisk

The notion of risk transfer and insurance has been studied for a long period, and in particular there ...