Risk Capital Allocation with Autonomous Subunits: The Lorenz Set

Jens Leth Hougaard, Aleksandrs Smilgins

Publikation: Bidrag til tidsskriftTidsskriftartikelForskningpeer review

Abstract

Risk capital allocation problems have been widely discussed in the academic literature. We consider a set of independent subunits collaborating in order to reduce risk: that is, when subunit portfolios are merged a diversification benefit arises and the risk of the group as a whole is smaller than the sum of the risks of the individual subunits. The question is how to allocate the risk capital of the group among the subunits in a fair way. In this paper we propose to use the Lorenz set as an allocation method. We show that the Lorenz set is operational and coherent. Moreover, we propose three fairness tests related directly to the problem of risk capital allocation and show that the Lorenz set satisfies all three tests in contrast to other well-known coherent methods. Finally, we discuss how to deal with non-uniqueness of the Lorenz set.
OriginalsprogEngelsk
TidsskriftInsurance: Mathematics and Economics
Vol/bind67
Sider (fra-til)151-157
Antal sider7
ISSN0167-6687
DOI
StatusUdgivet - mar. 2016
Udgivet eksterntJa

Emneord

  • Risk capital
  • Cost allocation
  • Lorenz undominated elements of the core
  • Coherent risk allocation
  • Egalitarian allocation

Citationsformater