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Estimating the Cost of Equity Capital for Insurance Firms With Multiperiod Asset Pricing Models
Author(s) -
Barinov Alexander,
Xu Jianren,
Pottier Steven W.
Publication year - 2020
Publication title -
journal of risk and insurance
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.055
H-Index - 63
eISSN - 1539-6975
pISSN - 0022-4367
DOI - 10.1111/jori.12267
Subject(s) - capital asset pricing model , economics , volatility (finance) , consumption based capital asset pricing model , financial economics , cost of equity , market liquidity , equity (law) , systematic risk , cost of capital , monetary economics , microeconomics , law , profit (economics) , political science
Previous research on insurer cost of equity (COE) focuses on single‐period asset pricing models. In reality, however, investment and consumption decisions are made over multiple periods, exposing firms to time‐varying risks related to economic cycles and market volatility. We extend the literature by examining two multiperiod models—the conditional capital asset pricing model (CCAPM) and the intertemporal CAPM (ICAPM). Using 29 years of data, we find that macroeconomic factors significantly influence and explain insurer stock returns. Insurers have countercyclical beta, implying that their market risk increases during recessions. Further, insurers are sensitive to volatility risk (the risk of losses when volatility goes up), but not to insurance‐specific risks, financial industry risks, liquidity risk, or coskewness after controlling for other economy‐wide factors.