Capital Allocation for Property-Liability Insurers: A Catastrophe Reinsurance Application

In their important paper, Line-by-Line Surplus Requirements for Insurance Companies, Stuart Myers and James Read have developed an economically sound method for allocating capital to lines of insurance. The purpose of my paper is to extend their model and apply it to the pricing of catastrophe insurance by layer of coverage. I also show the connection between capital allocation and risk loads by layer. With this paper I hope to introduce the Myers-read (MR) method and its underlying concepts to a wider, less finance-oriented audience.