On Discrete-Time Dynamic Programming in Insurance: Exponential Utility and Minimizing the Ruin Probability

Abstract

This paper studies an insurance model where the risk process can be controlled by reinsurance and by investment in a financial market. The performance criterion is either the expected exponential utility of the terminal surplus or the ruin probability. It is shown that the problems can be imbedded in the framework of discrete-time stochastic dynamic programming but with some special features. A short introduction to control theory with infinite state space is provided which avoids the measure-theoretic apparatus by use of the so-called structure assumption. Moreover, in order to treat models without discount factor, a weak contraction property is derived. Explicit conditions are obtained for the optimality of employing no reinsurance.

Keywords:

• reinsurance
• investment
• Markov decision processes
• Howard improvement
• verification theorem

Acknowledgments

The author is grateful to Hanspeter Schmidli for several useful discussions and in particular for the result that Theorem 6 also holds for maximizing the adjustment coefficient. The author thanks an anonymous referee and participants at a seminar on “financial engineering” at caesar (center of advanced european studies and research) in Bonn for very helpful comments.

Notes

Schäl M. On discrete-time dynamic programming in insurance: exponential utility and minimizing the ruin probability. Scand. Actuarial J. 2004; 3: 189–210.

MANFRED SCHÄL

Additional information

Notes on contributors

Manfred Schäl

Schäl M. On discrete-time dynamic programming in insurance: exponential utility and minimizing the ruin probability. Scand. Actuarial J. 2004; 3: 189–210. MANFRED SCHÄL