The pricing of risk factors and the UK insurance stocks' performance a nonlinear multivariate approach

Abstract

The objective of the present study is to examine the impact of exchange and interest rate changes on the common stock returns of the insurance companies in the UK. All general and life insurance firms listed in the London Stock Exchange are selected for this purpose. An augmented market model with the additional variables of the interest and exchange rate indices is employed to test both the pricing question and the factor sensitivity of the particular sample. A seemingly unrelated regression (SURE) multivariate estimation with both cross–equation restrictions and within equation nonlinear constraints on the parameters is employed. This method eliminates the errors in variable (EIV) problem and the estimates are strongly consistent and asymptotically normal even without the assumption of normally distributed errors. The two main implications of this investigation are as follows. First both kinds of insurance companies are negatively and equally affected by unanticipated changes in interest rates. Second the changes in exchange rates seem to inversely affect the general insurance companies, while the life insurance firms seem to be insensitive.