Index constituent weightings and implied volatilities

[MTE]

Quote from Neutral:

Hmm. So in a perfectly fair and efficient market, the only money an insurer can make is the labor he puts into servicing your insurance needs. And those big insurance firms, which are obviously making more money than that on average (or are they?), are based on some sort of barrier to entry or government intervention or some other source of market distortion. Mind you, I am not disputing what you said. It's just food for thought for me. I somehow had this idea that by aggregating risks, and buying reinsurance at a cheaper rate because of their aggregated, averaged-out risk, the insurance companies were making their money fair and square. Something to look into when/if I have the time. Interesting.

My view is fairly simple. People are willing to pay more than the true fair price for insurance. Essentially it is the same as if options had wide bid/ask spreads and everyone would be willing to buy options on the ask and sell them at the bid.

 

[Martinghoul]

Quote from Neutral:

Hmm. So in a perfectly fair and efficient market, the only money an insurer can make is the labor he puts into servicing your insurance needs. And those big insurance firms, which are obviously making more money than that on average (or are they?), are based on some sort of barrier to entry or government intervention or some other source of market distortion. Mind you, I am not disputing what you said. It's just food for thought for me. I somehow had this idea that by aggregating risks, and buying reinsurance at a cheaper rate because of their aggregated, averaged-out risk, the insurance companies were making their money fair and square. Something to look into when/if I have the time. Interesting.

My view is also simple... Namely, insurance, as you have concluded, is overpriced, in fact, simply because people are structurally risk-averse. However, reinsurance, in spite of the aggregation/correlation aspect of it, is also overpriced. So you can't expect to make money by doing both legs. You can, if you are able to avoid marking-to-mkt, make money by selling insurance.