Skip to main content Accessibility help
×
Home

Systematic longevity risk: to bear or to insure?

  • Ling-Ni Boon (a1), Marie Brière (a2) (a3) (a4) and Bas J. M. Werker (a5)

Abstract

We compare two contracts for managing systematic longevity risk in retirement: a collective arrangement that distributes the risk among participants, and a market-provided annuity contract. We evaluate the contracts’ appeal with respect to the retiree's welfare, and the viability of the market solution through the financial reward to the annuity provider's equityholders. We find that individuals prefer to bear the risk under a collective arrangement than to insure it with a life insurers' annuity contract subject to insolvency risk (albeit small). Under realistic capital provision hypotheses, the annuity provider is incapable of adequately compensating its equityholders for bearing systematic longevity risk.

Copyright

Corresponding author

*Corresponding author. Email: marie.briere@amundi.com

References

Hide All
Aase, KK (2015) Life insurance and pension contracts I: the time additive life cycle model. ASTIN Bulletin 45, 147.
Ai, J, Brockett, PL, Golden, LL and Zhu, W (2017) Health state transitions and longevity effects on retirees’ optimal annuitization. Journal of Risk and Insurance 84(S1), 319343.
Ang, A and Maddaloni, A (2003) Do demographic changes affect risk premiums? Evidence from international data. NBER Working Paper No. 9677, National Bureau of Economic Research.
Arnott, RD and Chaves, DB (2012) Demographic changes, financial markets, and the economy. Financial Analysts Journal 68, 2346.
Avanzi, B, Shen, J and Wong, B (2011) Optimal dividends and capital injections in the dual model with diffusion. ASTIN Bulletin: The Journal of the IAA 41, 611644.
Baione, F, De Angelis, P, Menzietti, M and Tripodi, A (2017) A comparison of risk transfer strategies for a portfolio of life annuities based on RORAC. Journal of Applied Statistics 44, 18751892.
Beetsma, RM, Romp, WE and Vos, SJ (2012) Voluntary participation and intergenerational risk sharing in a funded pension system. European Economic Review 56, 13101324.
Blackburn, C, Hanewald, K, Olivieri, A and Sherris, M. (2017) Longevity risk management and shareholder value for a life annuity business. ASTIN Bulletin 47, 4377.
Booth, H, Maindonald, J and Smith, L (2002) Applying Lee-Carter under conditions of variable mortality decline. Population Studies 56, 325336.
Bovenberg, L, Koijen, RS, Nijman, T and Teulings, C (2007) Saving and investing over the life cycle and the role of collective pension funds. De Economist 155, 347415.
Boyle, P, Hardy, M, Mackay, A and Saunders, D (2015) Variable payout annuities. Working paper, Pension Section Research Committee.
Broeders, D, Mehlkopf, R, van Ool, A, et al. (2018) The economics of sharing macro-longevity risk. Working paper No. 618, De Nederlandsche Bank.
Brown, JR, Mitchell, OS and Poterba, JM (2001) The role of real annuities and indexed bonds in an individual accounts retirement program. In Campbell, Y John and Feldstein, Martin (eds), Risk Aspects of Investment-based Social Security Reform. Chicago and London: University of Chicago Press, pp. 321370.
Cairns, AJ, Blake, D and Dowd, K (2006) A two-factor model for stochastic mortality with parameter uncertainty: theory and calibration. Journal of Risk and Insurance 73, 687718.
Cairns, AJ, Blake, D, Dowd, K, Coughlan, GD, Epstein, D and Khalaf-Allah, M (2011) Mortality density forecasts: an analysis of six stochastic mortality models. Insurance: Mathematics and Economics 48, 355367.
Casella, G and Berger, RL (2002) Statistical Inference, 2nd Edn. the Wadsworth Group, Duxbury: California.
Chen, A and Hieber, P (2016) Optimal asset allocation in life insurance: the impact of regulation. ASTIN Bulletin 46, 605626.
Chen, DH, Beetsma, RM, Ponds, EH and Romp, WE (2016) Intergenerational risk-sharing through funded pensions and public debt. Journal of Pension Economics and Finance 15, 127159.
Chen, DH, Beetsma, RM, Broeders, DW and Pelsser, AA (2017) Sustainability of participation in collective pension schemes: an option pricing approach. Insurance: Mathematics and Economics 74, 182196.
Cocco, JF, Gomes, FJ and Maenhout, PJ (2005) Consumption and portfolio choice over the life cycle. Review of Financial Studies 18, 491533.
Cox, SH and Lin, Y (2007) Natural hedging of life and annuity mortality risks. North American Actuarial Journal 11, 115.
Cui, J, de Jong, F and Ponds, E (2011) Intergenerational risk sharing within funded pension schemes. Journal of Pension Economics and Finance 10, 129.
Davidoff, T, Brown, JR and Diamond, PA (2005) Annuities and individual welfare. American Economic Review 95, 15731590.
Denuit, M, Haberman, S and Renshaw, A (2011) Longevity-indexed life annuities. North American Actuarial Journal 15, 97111.
Donnelly, C, Guillén, M and Nielsen, JP (2013) Exchanging uncertain mortality for a cost. Insurance: Mathematics and Economics 52, 6576.
Dowd, K, Blake, D and Cairns, AJ (2011) A computationally efficient algorithm for estimating the distribution of future annuity values under interest-rate and longevity risks. North American Actuarial Journal 15, 237247.
Eckel, CC and Grossman, PJ (2008) Men, women and risk aversion: experimental evidence. Handbook of Experimental Economics Results 1, 10611073.
Erb, CB, Harvey, CR and Viskanta, TE (1994) Forecasting international equity correlations. Financial Analysts Journal 50, 3245.
Feldstein, M and Ranguelova, E (2001) Individual risk in an investment-based social security system. American Economic Review 91, 11161125.
Filipović, D, Kremslehner, R and Muermann, A (2015) Optimal investment and premium policies under risk shifting and solvency regulation. Journal of Risk and Insurance 82, 261288.
Finkelstein, A and Poterba, J (2004) Adverse selection in insurance markets: policyholder evidence from the UK annuity market. Journal of Political Economy 112, 183208.
Frederick, S, Loewenstein, G and O'Donoghue, T (2002) Time discounting and time preference: a critical review. Journal of Economic Literature 40, 351401.
Froot, KA (2007) Risk management, capital budgeting, and capital structure policy for insurers and reinsurers. Journal of Risk and Insurance 74, 273299.
Gatzert, N and Wesker, H (2012) The impact of natural hedging on a life insurer's risk situation. The Journal of Risk Finance 13, 396423.
Gatzert, N, Holzmüller, I and Schmeiser, H (2012) Creating customer value in participating life insurance. Journal of Risk and Insurance 79, 645670.
Gollier, C (2008) Intergenerational risk-sharing and risk-taking of a pension fund. Journal of Public Economics 92, 14631485.
Hanewald, K, Piggott, J and Sherris, M (2013) Individual post-retirement longevity risk management under systematic mortality risk. Insurance: Mathematics and Economics 52, 8797.
Horneff, WJ, Maurer, RH, Mitchell, OS and Stamos, MZ (2010) Variable payout annuities and dynamic portfolio choice in retirement. Journal of Pension Economics and Finance 9, 163183.
Huang, H, Milevsky, MA and Salisbury, TS (2012) Optimal retirement consumption with a stochastic force of mortality. Insurance: Mathematics and Economics 51, 282291.
Human Mortality Database (2015) University of California, Berkeley (USA), and Max Planck Institute for Demographic Research (Germany). Last Accessed: 2015-03-31.
Investment Company Institute (2016) The US Retirement Market, Second Quarter 2016 (September). Last Accessed: 2016-10-24.
Jensen, MC (1968) The performance of mutual funds in the period 1945–1964. Journal of Finance 23, 389416.
Ji, M and Zhou, R (2017) Demographic risk in deep-deferred annuity valuation. Annals of Actuarial Science 11, 129.
Kimball, MS, Sahm, CR and Shapiro, MD (2008) Imputing risk tolerance from survey responses. Journal of the American Statistical Association 103, 10281038.
Koijen, RS and Yogo, M (2015) The cost of financial frictions for life insurers. American Economic Review 105, 445475.
Koijen, RS and Yogo, M (2016) Shadow insurance. Econometrica 84, 12651287.
Koijen, RS and Yogo, M (2017) The fragility of market risk insurance. SSRN Working Paper No. 2972295.
Koijen, RS, Nijman, TE and Werker, BJ (2011) Optimal annuity risk management. Review of Finance 15, 799.
Kulenko, N and Schmidli, H (2008) Optimal dividend strategies in a Cramér–Lundberg model with capital injections. Insurance: Mathematics and Economics 43, 270278.
Lee, RD and Carter, LR (1992) Modeling and forecasting US mortality. Journal of the American Statistical Association 87, 659671.
Lockwood, LM (2012) Bequest motives and the annuity puzzle. Review of Economic Dynamics 15, 226243.
Luciano, E, Regis, L and Vigna, E (2015) Single-and cross-generation natural hedging of longevity and financial risk. Journal of Risk and Insurance 84, 961986.
Martin, I (2012) On the valuation of long-dated assets. Journal of Political Economy 120, 346358.
Maurer, R, Mitchell, OS, Rogalla, R and Kartashov, V (2013) Lifecycle portfolio choice with systematic longevity risk and variable investment-linked deferred annuities. Journal of Risk and Insurance 80, 649676.
Maurer, R, Mitchell, OS, Rogalla, R and Siegelin, I (2016) Accounting and actuarial smoothing of retirement payouts in participating life annuities. Insurance: Mathematics and Economics 71, 268283.
Mertens, E (2002) Comments on variance of the IID estimator in Lo (2002). Working paper.
Merton, RC (1969) Lifetime portfolio selection under uncertainty: the continuous-time case. Review of Economics and Statistics 51, 247257.
Milevsky, MA and Salisbury, TS (2015) Optimal retirement income tontines. Insurance: Mathematics and Economics 64, 91105.
Miller, MH and Modigliani, F (1961) Dividend policy, growth, and the valuation of shares. Journal of Business 34, 411433.
Mitchell, OS and McCarthy, D (2002) Estimating international adverse selection in annuities. North American Actuarial Journal 6, 3854.
Modigliani, F and Miller, MH (1958) The cost of capital, corporation finance and the theory of investment. American Economic Review 48, 261297.
Nielsen, LT and Vassalou, M (2004) Sharpe ratios and alphas in continuous time. Journal of Financial and Quantitative Analysis 39, 103114.
Pashchenko, S (2013) Accounting for non-annuitization. Journal of Public Economics 98, 5367.
Peijnenburg, K, Nijman, T and Werker, BJ (2017) Health cost risk: a potential solution to the annuity puzzle. Economic Journal 127, 15981625.
Piggott, J, Valdez, EA and Detzel, B (2005) The simple analytics of a pooled annuity fund. Journal of Risk and Insurance 72, 497520.
Poterba, JM (2001) Demographic structure and asset returns. Review of Economics and Statistics 83, 565584.
Qiao, C and Sherris, M (2013) Managing systematic mortality risk with group self-pooling and annuitization schemes. Journal of Risk and Insurance 80, 949974.
Reichling, F and Smetters, K (2015) Optimal annuitization with stochastic mortality and correlated medical costs. American Economic Review 105, 32733320.
Renshaw, AE and Haberman, S (2006) A cohort-based extension to the Lee–carter model for mortality reduction factors. Insurance: Mathematics and Economics 38, 556570.
Richter, A and Weber, F (2011) Mortality-indexed annuities: managing longevity risk via product design. North American Actuarial Journal 15, 212236.
Schich, S (2008) Revisiting the asset-meltdown hypothesis. OECD Journal: Financial Market Trends 15, Organisation for Economic Co-operation and Development.
Stamos, MZ (2008) Optimal consumption and portfolio choice for pooled annuity funds. Insurance: Mathematics and Economics 43, 5668.
Steffensen, M (2011) Optimal consumption and investment under time-varying relative risk aversion. Journal of Economic Dynamics and Control 35, 659667.
Tan, KS, Blake, DP and MacMinn, RD (2015) Longevity risk and capital markets: the 2013–14 update. Insurance: Mathematics and Economics 63, 111.
Tsai, JT, Wang, JL and Tzeng, LY (2010) On the optimal product mix in life insurance companies using conditional value at risk. Insurance: Mathematics and Economics 46, 235241.
U.S. Chamber of Commerce (2016) Private retirement benefits in the 21st century: Achieving retirement security. Report, United States Chamber of Commerce, Washington, DC.
Viceira, LM (2001) Optimal portfolio choice for long-horizon investors with nontradable labor income. Journal of Finance 56, 433470.
Visco, I (2006) Longevity risk and financial markets. Keynote speech to the 26th SUERF Colloquium, Lisbon, 12–14 October 2006. Last accessed: 2017-04-20.
Wakker, P, Thaler, R and Tversky, A (1997) Probabilistic insurance. Journal of Risk and Uncertainty 15, 728.
Weale, M and van de Ven, J (2016) Variable annuities and aggregate mortality risk. National Institute Economic Review 237, 5561.
Willis Towers Watson (2017) FTSE 350 defined contribution pension scheme survey 2017. Infographic. Last Accessed: 2017-02-24.
Wong, A, Sherris, M and Stevens, R (2017) Natural hedging strategies for life insurers: impact of product design and risk measure. Journal of Risk and Insurance 84, 153175.
Xu, J, Murphy, SL, Kochanek, KD and Arias, E (2016) Mortality in the united states, 2015. NCHS Data Brief No. 267, National Center for Health Statistics.
Yaari, ME (1965) Uncertain lifetime, life insurance, and the theory of the consumer. Review of Economic Studies 32, 137150.
Yang, J, Acheson, L, Holt, J, Rupp, G and Spica, K (2016) 2015 Target-Date Fund Landscape. Report, Vanguard Group, Inc. Last Accessed: 2017-03-06.
Yao, D, Yang, H and Wang, R (2011) Optimal dividend and capital injection problem in the dual model with proportional and fixed transaction costs. European Journal of Operational Research 211, 568576.
Yogo, M (2016) Portfolio choice in retirement: health risk and the demand for annuities, housing, and risky assets. Journal of Monetary Economics 80, 1734.
Zimmer, A, Schade, C and Gründl, H (2009) Is default risk acceptable when purchasing insurance? Experimental evidence for different probability representations, reasons for default, and framings. Journal of Economic Psychology 30, 1123.
Zimmer, A, Gründl, H, Schade, CD and Glenzer, F (2018) An incentive-compatible experiment on probabilistic insurance and implications for an insurer's solvency level. Journal of Risk and Insurance 85, 245273.

Keywords

Systematic longevity risk: to bear or to insure?

  • Ling-Ni Boon (a1), Marie Brière (a2) (a3) (a4) and Bas J. M. Werker (a5)

Metrics

Full text views

Total number of HTML views: 0
Total number of PDF views: 0 *
Loading metrics...

Abstract views

Total abstract views: 0 *
Loading metrics...

* Views captured on Cambridge Core between <date>. This data will be updated every 24 hours.

Usage data cannot currently be displayed