Managing Systematic Mortality Risk in Life Annuities: An Application of Longevity Derivatives

29 Pages Posted: 12 Mar 2015

See all articles by Simon Man Chung Fung

Simon Man Chung Fung

Commonwealth Bank of Australia

Katja Ignatieva

University of New South Wales - Australian School of Business

Michael Sherris

University of New South Wales - ARC Centre of Excellence in Population Ageing Research and School of Risk and Actuarial Studies; UNSW Business School

Date Written: February 1, 2015

Abstract

Developing a liquid longevity market requires reliable and well-designed financial instruments. An index-based longevity swap and a cap are analyzed in this paper under a tractable stochastic mortality model. The model is calibrated using Australian mortality data and analytical formulas for prices of longevity derivatives are provided. Hedge effectiveness is examined under a hypothetical life annuity portfolio subject to longevity risk. The paper presents various hedging features exhibited by a longevity swap and a cap based on different assumptions underlying the market price of longevity risk, the term to maturity of hedging instruments, as well as the size of the underlying annuity portfolio. The results are demonstrated to have important implications for the optimal use of longevity hedging instruments with linear and nonlinear payoff structures.

Keywords: longevity risk management; longevity swaps; longevity options; hedge effectiveness

JEL Classification: G22, G23, G13

Suggested Citation

Fung, Man Chung and Ignatieva, Katja and Sherris, Michael, Managing Systematic Mortality Risk in Life Annuities: An Application of Longevity Derivatives (February 1, 2015). UNSW Business School Research Paper No. 20015ACTL04, Available at SSRN: https://ssrn.com/abstract=2576575 or http://dx.doi.org/10.2139/ssrn.2576575

Man Chung Fung (Contact Author)

Commonwealth Bank of Australia

CBP
Sydney, NSW 2064
Australia

Katja Ignatieva

University of New South Wales - Australian School of Business ( email )

UNSW Business School
High St
Sydney, NSW 2052
Australia

Michael Sherris

University of New South Wales - ARC Centre of Excellence in Population Ageing Research and School of Risk and Actuarial Studies ( email )

UNSW Business School
Risk and Actuarial Studies
Sydney, NSW 2052
Australia
+61 2 9385 2333 (Phone)
+61 2 9385 1883 (Fax)

HOME PAGE: http://www.asb.unsw.edu.au/schools/Pages/MichaelSherris.aspx

UNSW Business School ( email )

Sydney, NSW 2052
Australia

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