PRICING CATASTROPHE BOND USING VASICEK SHORT RATE MODEL AND PEAKS OVER THRESHOLD APPROACH: EARTHQUAKE IN MEGATHRUST MID 2 SUMATERA

• Main Author: Raissa, Regina
• Format: Theses
• Language: Indonesia
• Subjects: Karya Umum
• Online Access: https://digilib.itb.ac.id/gdl/view/47781
• Institution: Institut Teknologi Bandung

A Catastrophe Bond (CAT Bond) is an investment instrument which transfer a catastrophic risk to the financial market. The demands for CAT Bonds are gradually growing as one of the alternatives for diversifying investment portfolios. By investing in a CAT Bond, investor will be exposed to a catastrophic risk with a low expected loss and a higher coupon rate. This Thesis explores the modeling of a CAT Bond’s price using the Vasicek short-rate model. The moment magnitudes of earthquake’s mainshocks are used as the parametric triggers and are modeled by the Peaks Over Threshold approach. The magnitude trigger is determined using the average recurrence interval of the magnitudes of the earthquake’s mainshocks. The coupon of the corresponding CAT Bond consists of LIBOR (London Inter-Bank Offered Rate); and a premium rate calculated by the financial loss premium method. A simulation study shows that the investor’s expected loss is very low since the probability of the corresponding trigger magnitude is small. The resulted value premium and the expected loss will determine the CAT Bond’s price at issuance; the higher the premium, the higher the CAT Bond price at issuance as the expected loss increases.