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Financial markets can draw on a larger, more liquid, and more diversified pool of capital than the equity of reinsurance companies, yet they have failed to displace reinsurance as the primary risk-sharing vehicle for natural catastrophe risk. The authors show that such failure can be explained by differences in information gathering incentives between financial markets and reinsurance companies. Using a simple model of an insurance company that seeks to transfer a fraction of its risk exposure through financial markets or traditional reinsurance, they find that the supply of information by informed traders in financial markets may be excessive relative to its value for the insurance company, causing reinsurance to be preferred.
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