The Equilibrium Insurance Price and Underwriting Return in a Capital Market Setting

A modified capital asset pricing model (CAPM) is developed that integrates the markets for financial assets, real assets, and insurance. The proposed model recognizes that investors face not only financial risk from investments in risky assets, but also risk resulting from unpredictable losses on the real assets they hold in their portfolios. It is shown that the purchase of insurance should not be ignored in determining the equilibrium rate of return on assets. The equilibrium insurance premium should adjust for the sources of systematic risk associated with financial assets, real assets, and the insurance market. In agreement with previous studies, it was found that the insurer's equilibrium underwriting return could be negative, rather than positive, under specific conditions.