COST OF INSURANCE: A NOTE ON PUT VALUATION UNDER A CONSTRAINT

Abstract

In the arrangement of a loan, a governmental guarantee of deposits can be made to banks. The issuing of the guarantee creates a cost on the guarantor. Evaluation of this cost has been made with the option pricing theory (Merton (1977)). In this paper, we have added a more specific partition of liabilities of the bank and a constraint. The partition and constrain permit us deduce a possible modification of the cost of insurance using the same option pricing theory, based on the Karatzas and Shreve (1998) and Karatzas and Kou (1996).