Minimum rate of return guarantees: A valuation for customers with habit formation in preferences

  • Firmin Bijl Firmin Bijl

This paper constructs two mathematical models in order to determine whether investing in a minimum rate of return guarantee is welfare improving for customers with habit formation in preferences. The value
of the minimum rate of return guarantee is determined by comparing the simulation results of two models.
The first model determines the welfare for a customer when a minimum rate of return guarantee is unavailable, while the second model finds the welfare when a minimum rate of return guarantee is introduced. Using a measure called the certainty equivalent surplus consumption, we find that these guarantees are an interesting investment strategy for customers with and without habit formation in preferences. However, the welfare improvement is dependent on the specific contracts and the different settings that are considered.

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