Discussion paper

DP12849 Insurers as Asset Managers and Systemic Risk

Financial intermediaries often provide guarantees that resemble out-of-the-money put options, exposing them to tail risk. Using the U.S. life insurance industry as a laboratory, we present a model in which variable annuity (VA) guarantees and associated hedging operate within the regulatory capital framework to create incentives for insurers to overweight illiquid bonds ("reach-for-yield"). We then calibrate the model to insurer-level data, and show that the VA-writing insurers' collective allocation to illiquid bonds exacerbates system-wide fire sales in the event of negative asset shocks, plausibly erasing up to 20-70% of insurers' equity capital.


Wagner, W, A Kartasheva, J Chotibhak, A Ellul and C Lundblad (2018), ‘DP12849 Insurers as Asset Managers and Systemic Risk‘, CEPR Discussion Paper No. 12849. CEPR Press, Paris & London. https://cepr.org/publications/dp12849