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LONGEVITY RISK MANAGEMENT AND SHAREHOLDER VALUE FOR A LIFE ANNUITY BUSINESS

Published online by Cambridge University Press:  21 November 2016

Craig Blackburn ,
Katja Hanewald ,
Annamaria Olivieri  and
Michael Sherris
Craig Blackburn
Affiliation:
ARC Centre of Excellence in Population Ageing Research (CEPAR), University of New South Wales, Sydney NSW 2052, Australia E-Mail: [email protected]
Katja Hanewald*
Affiliation:
ARC Centre of Excellence in Population Ageing Research (CEPAR), University of New South Wales, Sydney NSW 2052, Australia
Annamaria Olivieri
Affiliation:
Dipartimento di Economia, University of Parma, Via Kennedy, 6, 43100 Parma, Italy E-Mail: [email protected]
Michael Sherris
Affiliation:
School of Risk and Actuarial Studies and ARC Centre of Excellence in Population Ageing Research (CEPAR), University of New South Wales, Sydney NSW 2052, Australia E-Mail: [email protected]
*
E-Mail: [email protected]
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Abstract

The life annuity business is heavily exposed to longevity risk. Risk transfer solutions are not yet fully developed, and when available they are expensive. A significant part of the risk must therefore be retained by the life insurer. So far, most of the research work on longevity risk has been mainly concerned with capital requirements and specific risk transfer solutions. However, the impact of longevity risk on shareholder value also deserves attention. While it is commonly accepted that a market-consistent valuation should be performed in this respect, the definition of a fair shareholder value for a life insurance business is not trivial. In this paper, we develop a multi-period market-consistent shareholder value model for a life annuity business. The model allows for systematic and idiosyncratic longevity risk and includes the most significant variables affecting shareholder value: the cost of capital (which in a market-consistent setting must be quantified in terms of frictional and agency costs, net of the value of the limited liability put option), policyholder demand elasticity and the cost of alternative longevity risk management solutions, namely indemnity-based and index-based solutions. We show how the model can be used for assessing the impact of different longevity risk management strategies on life insurer shareholder value and solvency.

Keywords

Economic valuemarket-consistent embedded valuecapital managementSolvencyreinsurancesecuritizationlimited liability put optioncost of capital
Type
Research Article
Information
ASTIN Bulletin: The Journal of the IAA , Volume 47 , Issue 1 , January 2017 , pp. 43 - 77
Copyright
Copyright © Astin Bulletin 2016 

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