Pricing Cat Bonds for Southeastern Cities

Abstract eng:
A pricing model for CAT bonds, based on engineering seismic risk assessment, is introduced. The occurring probability of a defined earthquake catastrophe, estimated by seismic risk assessment method, is an input of the pricing model. Yields and proportion of reinvestment, principal protected ratio, issuance fee, circulation, maturity period, claim payments of insurers and reinsurers, are designed as factors. The annual coupon rates of the CAT bonds are studied under the equilibrium between the incomes of investors and issuers, in which the earning from earthquake insurance premium and the payout for reinsurance premium in complete and incomplete markets are described by Geometric Brownian Motion and Jump-Diffusion processes respectively. Then, four southeastern cities in Fujian province are adopted as examples to illustrate the feasibility of the model.

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