Longevity Risk and Natural Hedge Potential in Portfolios Of Life Insurance Products

The Effect of Investment Risk

Research output: Working paperDiscussion paperOther research output

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Abstract

Payments of life insurance products depend on the uncertain future evolution of survival probabilities. This uncertainty is referred to as longevity risk. Existing literature shows that the effect of longevity risk on single life annuities can be substantial, and that there exists a (natural) hedge potential from combining single life annuities with death benefits or from investing in survivor swaps. The effect of financial risk on these hedge effects is typically ignored. The aim of this paper is to quantify longevity risk in portfolios of mortality-linked assets and liabilities, taking into account the effect of financial risk. We find that investment risk significantly affects the impact of longevity risk in life insurance products. It also significantly affects the hedge potential that arises from combining life insurance products, or from investing in longevity-linked assets. For example, our results suggest that ignoring the effect of financial risk can lead to severe overestimation of the natural hedge potential from death benefits, and underestimation of the hedge effects of survivor swaps.
Original languageEnglish
Place of PublicationTilburg
PublisherFinance
Volume2011-036
Publication statusPublished - 2011

Publication series

NameCentER Discussion Paper
Volume2011-036

Fingerprint

Hedge
Longevity risk
Life insurance
Investment risk
Financial risk
Investing
Survivors
Life annuities
Assets
Swaps
Liability
Uncertainty
Survival probability
Mortality
Payment

Keywords

  • Life insurance
  • life annuities
  • death benefits
  • survivor swaps
  • risk management
  • financial risk
  • longevity risk
  • insolvency risk
  • capital adequacy

Cite this

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title = "Longevity Risk and Natural Hedge Potential in Portfolios Of Life Insurance Products: The Effect of Investment Risk",
abstract = "Payments of life insurance products depend on the uncertain future evolution of survival probabilities. This uncertainty is referred to as longevity risk. Existing literature shows that the effect of longevity risk on single life annuities can be substantial, and that there exists a (natural) hedge potential from combining single life annuities with death benefits or from investing in survivor swaps. The effect of financial risk on these hedge effects is typically ignored. The aim of this paper is to quantify longevity risk in portfolios of mortality-linked assets and liabilities, taking into account the effect of financial risk. We find that investment risk significantly affects the impact of longevity risk in life insurance products. It also significantly affects the hedge potential that arises from combining life insurance products, or from investing in longevity-linked assets. For example, our results suggest that ignoring the effect of financial risk can lead to severe overestimation of the natural hedge potential from death benefits, and underestimation of the hedge effects of survivor swaps.",
keywords = "Life insurance, life annuities, death benefits, survivor swaps, risk management, financial risk, longevity risk, insolvency risk, capital adequacy",
author = "R.S.P. Stevens and {De Waegenaere}, A.M.B. and B. Melenberg",
year = "2011",
language = "English",
volume = "2011-036",
series = "CentER Discussion Paper",
publisher = "Finance",
type = "WorkingPaper",
institution = "Finance",

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Longevity Risk and Natural Hedge Potential in Portfolios Of Life Insurance Products : The Effect of Investment Risk. / Stevens, R.S.P.; De Waegenaere, A.M.B.; Melenberg, B.

Tilburg : Finance, 2011. (CentER Discussion Paper; Vol. 2011-036).

Research output: Working paperDiscussion paperOther research output

TY - UNPB

T1 - Longevity Risk and Natural Hedge Potential in Portfolios Of Life Insurance Products

T2 - The Effect of Investment Risk

AU - Stevens, R.S.P.

AU - De Waegenaere, A.M.B.

AU - Melenberg, B.

PY - 2011

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N2 - Payments of life insurance products depend on the uncertain future evolution of survival probabilities. This uncertainty is referred to as longevity risk. Existing literature shows that the effect of longevity risk on single life annuities can be substantial, and that there exists a (natural) hedge potential from combining single life annuities with death benefits or from investing in survivor swaps. The effect of financial risk on these hedge effects is typically ignored. The aim of this paper is to quantify longevity risk in portfolios of mortality-linked assets and liabilities, taking into account the effect of financial risk. We find that investment risk significantly affects the impact of longevity risk in life insurance products. It also significantly affects the hedge potential that arises from combining life insurance products, or from investing in longevity-linked assets. For example, our results suggest that ignoring the effect of financial risk can lead to severe overestimation of the natural hedge potential from death benefits, and underestimation of the hedge effects of survivor swaps.

AB - Payments of life insurance products depend on the uncertain future evolution of survival probabilities. This uncertainty is referred to as longevity risk. Existing literature shows that the effect of longevity risk on single life annuities can be substantial, and that there exists a (natural) hedge potential from combining single life annuities with death benefits or from investing in survivor swaps. The effect of financial risk on these hedge effects is typically ignored. The aim of this paper is to quantify longevity risk in portfolios of mortality-linked assets and liabilities, taking into account the effect of financial risk. We find that investment risk significantly affects the impact of longevity risk in life insurance products. It also significantly affects the hedge potential that arises from combining life insurance products, or from investing in longevity-linked assets. For example, our results suggest that ignoring the effect of financial risk can lead to severe overestimation of the natural hedge potential from death benefits, and underestimation of the hedge effects of survivor swaps.

KW - Life insurance

KW - life annuities

KW - death benefits

KW - survivor swaps

KW - risk management

KW - financial risk

KW - longevity risk

KW - insolvency risk

KW - capital adequacy

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VL - 2011-036

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BT - Longevity Risk and Natural Hedge Potential in Portfolios Of Life Insurance Products

PB - Finance

CY - Tilburg

ER -