Comparison of Approximations for Compound Poisson Processes


In this paper, we compare the error in several approximation methods for the cumulative aggregate claim distribution customarily used in the collective model of insurance theory. In this model, it is usually supposed that a portfolio is at risk for a time period of length $t$. The occurrences of the claims are governed by a Poisson process of intensity $\mu$ so that the number of claims in $[0,t]$ is a Poisson random variable with parameter $\lambda = \mu t$. Each single claim is an independent replication of the random variable $X$, representing the claim severity. The aggregate claim or total claim amount process in $[0,t]$ is represented by the random sum of $N$ independent replications of $X$, whose cumulative distribution function (cdf) is the object of study. Due to its computational complexity, several approximation methods for this cdf have been proposed. In this paper, we consider 15 approximations put forward in the literature that only use information on the lower order moments of the involved distributions. For each approximation, we consider the difference between the true distribution and the approximating one and we propose to use expansions of this difference related to Edgeworth series to measure their accuracy as $\lambda = \mu t$ diverges to infinity. Using these expansions, several statements concerning the quality of approximations for the distribution of the aggregate claim process can find theoretical support. Other statements can be disproved on the same grounds. Finally, we investigate numerically the accuracy of the proposed formulas.

ASTIN Bulletin, 45(3), 601-637

Raffaello Seri
Raffaello Seri
Professor of Econometrics

My research interests include statistics, numerical analysis, operations research, psychology, economics and management.