Exchange options for catastrophe risk management |
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| Institution: | School of Finance, Nanjing University of Finance and Economics, Nanjing 210023, PR China;Department of Accounting, Finance, and Economics College of Business, The University of Texas–Permian Basin, 4901 E. University Blvd., Odessa, TX 79762, United States;Department of Finance and Insurance, Miller College of Business, Ball State University, Muncie, IN 47306, United States |
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| Abstract: | In this paper, we investigate the pricing issue and catastrophe risk management of exchange options. Exchange options allow the holder to exchange its stocks for another at maturity and can be seen as an extended version of catastrophe equity put options with another traded asset price as strike prices. Since option holders have to issue new shares to exercise the option, we illustrate the differences between option prices calculated using pre-exercise and post-exercise share prices. The effects of default risk on option prices and risk management are also considered. Finally, risk management analysis shows that exchange options can effectively hedge catastrophe risk. |
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| Keywords: | Catastrophe risk Exchange options Catastrophic events Poisson processes |
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