The Study On Pricing Of Earthquake CAT Contingent Convertible Bonds With The Multi-event Hybrid Trigger

Human beings are hard to survive and develop in the world which was shaped by disasters.In recent years,with more frequent social activities and more intensive economic activities,catastrophic events have caused heavy losses.How to deal with catastrophe risks has become a key issue of global concern.The transfer of catastrophe risk to the capital market has been advocated,and the catastrophe derivatives market continues to innovate and search for new financial derivatives tools.Contingent convertible bonds(Co Cos)is a new financial derivative,which combines creditor’s rights and equity.At the beginning of the issue,Co Cos will be seen as bond,and the bond has the annual coupon stream embedded within it.When the enterprise has financial crisis,it will automatically convert into equity or suffer a write-down of the face value,and raise the capital adequacy ratio of the enterprise in time,which has an excellent performance in relieving stress of enterprise bankruptcy.Based on the background above,this paper provides an in-depth analysis of the designing and pricing of a relatively new type of insurance-linked security,called Earthquake CAT Contingent Convertible.The multi-event trigger condition is adopted by the bond designed in this paper.Different triggering events correspond to different bond loss levels,which can effectively reduce the probability of default and are more acceptable to Chinese emerging market investors.The first trigger event is designed as a compound trigger event which not only measures the economic loss caused by the earthquake,but also considers the casualties caused by the earthquake.A joint distribution function of earthquake economic loss and earthquake casualties is established for setting a threshold value.When the earthquake disaster loss reaches a pre-set threshold,the bond will no longer pay the debt interest.and the bonds will no longer pay coupon.After that,when the stock price of the issuer falls to the set threshold,the second condition is triggered,and part of the value of the bonds is converted into stocks,which gives full play to the capacity of earthquake catastrophe bond risk compensation and effectively Reduce the impact of manipulable risk.Finally,for the reason that the Co Cos designed in this paper are path-dependent,the equity derivative approach is chosen to accurately price the contingent convertible earthquake catastrophe bonds.Equity derivatives approach decomposes contingent convertible bonds into zero coupon bonds,binary down-and-in options and knock-in forward contracts.This paper theoretically deduces the value equation of the contingent convertible earthquake catastrophe bonds,which provides a reference for accurate pricing of contingent convertible earthquake catastrophe bonds.Further,Based on pricing model,this paper gives sensitivity analysis for important parameters in pricing model,and provides proposals for parameter design when contingent convertible earthquake catastrophe bonds is issued.The research shows that: the debt interest plays the greatest role on the Co Cos price,which should be firstly considered in the Co Cos design.Secondly,bond price is relatively sensitive to conversion price,barrier price level and earthquake catastrophe trigger level,while conversion ratio has little effect on bond price.