Aegon looks to cost of capital to price optionality in VA liabilities

A proposed new modelling framework from the Dutch insurer's US arm uses cost of capital in an analogous role to the market price of risk in traditional pricing theory to value long-dated options embedded in VA liabilities

Actuaries at the US arm of the Hague-based insurer Aegon have designed a new framework for pricing extremely long-dated options via the cost of capital instead of the market price of risk as is usual, in order to value the embedded options in variable annuity (VA) contracts.

In contrast to traditional derivatives pricing theory – which uses hedging arguments to shift risky assets by the amount charged by the market for each unit of risk in order to price derivatives – the new framework instead