Longevity risk in pension annuities

The effect of product design

Research output: Contribution to journalArticleScientificpeer-review

Abstract

We consider defined benefit pension plans that, at retirement age, allow the participant to choose between a single life annuity and a joint and survivor annuity. We compare two plans that differ in terms of how pension rights are accrued. In one plan, the participant accrues the right to receive a single life annuity, and can exchange that annuity for an actuarially equivalent joint and survivor annuity at retirement date. The opposite holds in the other plan. We show that both plans are affected by longevity risk in two ways. First, the participants’ choices at retirement age affect the ratio of survivor benefits over single life benefits, and, therefore, affect the natural hedge potential that arises from combining single life and survivor annuities. Second, uncertainty in the rate at which the participant will be allowed to exchange one type of annuity for the other at retirement date induces uncertainty in the level of the nominal rights for single life and survivor annuities, respectively. We compare the two plans, and show that longevity risk is substantially lower in case rights are accrued in the form of a joint and survivor annuity.
Original languageEnglish
Pages (from-to)222-234
JournalInsurance: Mathematics & Economics
Volume46
Issue number1
Publication statusPublished - 2010

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Product Design
Date
Uncertainty
Categorical or nominal
Longevity risk
Product design
Annuities
Pensions
Choose
Survivors
Life

Cite this

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title = "Longevity risk in pension annuities: The effect of product design",
abstract = "We consider defined benefit pension plans that, at retirement age, allow the participant to choose between a single life annuity and a joint and survivor annuity. We compare two plans that differ in terms of how pension rights are accrued. In one plan, the participant accrues the right to receive a single life annuity, and can exchange that annuity for an actuarially equivalent joint and survivor annuity at retirement date. The opposite holds in the other plan. We show that both plans are affected by longevity risk in two ways. First, the participants’ choices at retirement age affect the ratio of survivor benefits over single life benefits, and, therefore, affect the natural hedge potential that arises from combining single life and survivor annuities. Second, uncertainty in the rate at which the participant will be allowed to exchange one type of annuity for the other at retirement date induces uncertainty in the level of the nominal rights for single life and survivor annuities, respectively. We compare the two plans, and show that longevity risk is substantially lower in case rights are accrued in the form of a joint and survivor annuity.",
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Longevity risk in pension annuities : The effect of product design. / Stevens, R.; De Waegenaere, A.M.B.; Melenberg, B.

In: Insurance: Mathematics & Economics, Vol. 46, No. 1, 2010, p. 222-234.

Research output: Contribution to journalArticleScientificpeer-review

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T2 - The effect of product design

AU - Stevens, R.

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AU - Melenberg, B.

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N2 - We consider defined benefit pension plans that, at retirement age, allow the participant to choose between a single life annuity and a joint and survivor annuity. We compare two plans that differ in terms of how pension rights are accrued. In one plan, the participant accrues the right to receive a single life annuity, and can exchange that annuity for an actuarially equivalent joint and survivor annuity at retirement date. The opposite holds in the other plan. We show that both plans are affected by longevity risk in two ways. First, the participants’ choices at retirement age affect the ratio of survivor benefits over single life benefits, and, therefore, affect the natural hedge potential that arises from combining single life and survivor annuities. Second, uncertainty in the rate at which the participant will be allowed to exchange one type of annuity for the other at retirement date induces uncertainty in the level of the nominal rights for single life and survivor annuities, respectively. We compare the two plans, and show that longevity risk is substantially lower in case rights are accrued in the form of a joint and survivor annuity.

AB - We consider defined benefit pension plans that, at retirement age, allow the participant to choose between a single life annuity and a joint and survivor annuity. We compare two plans that differ in terms of how pension rights are accrued. In one plan, the participant accrues the right to receive a single life annuity, and can exchange that annuity for an actuarially equivalent joint and survivor annuity at retirement date. The opposite holds in the other plan. We show that both plans are affected by longevity risk in two ways. First, the participants’ choices at retirement age affect the ratio of survivor benefits over single life benefits, and, therefore, affect the natural hedge potential that arises from combining single life and survivor annuities. Second, uncertainty in the rate at which the participant will be allowed to exchange one type of annuity for the other at retirement date induces uncertainty in the level of the nominal rights for single life and survivor annuities, respectively. We compare the two plans, and show that longevity risk is substantially lower in case rights are accrued in the form of a joint and survivor annuity.

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