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A comparative study of two population models for the assessment of basis risk in longevity hedges

Villegas, A., Haberman, S., Kaishev, V. K. and Millossovich, P. (2017). A comparative study of two population models for the assessment of basis risk in longevity hedges. ASTIN Bulletin, 47(3), pp. 631-679. doi: 10.1017/asb.2017.18

Abstract

Longevity swaps have been one of the major success stories of pension scheme derisking in recent years. However, with some few exceptions, all of the transactions to date have been bespoke longevity swaps based upon the mortality experience of a portfolio of named lives. In order for this market to start to meet its true potential, solutions will ultimately be needed that provide protection for all types of members, are cost effective for large and smaller schemes, are tradable, and enable access to the wider capital markets. Index-based solutions have the potential to meet this need; however concerns remain with these solutions. In particular, the basis risk emerging from the potential mismatch between the underlying forces of mortality for the index reference portfolio and the pension fund/annuity book being hedged is the principal issue that has, to date, prevented many schemes progressing their consideration of index-based solutions. Two-population stochastic mortality models offer an alternative to overcome this obstacle as they allow market participants to compare and project the mortality experience for the reference and target populations and thus assess the amount of demographic basis risk involved in an index-based longevity hedge. In this paper, we systematically assess the suitability of several multi-population stochastic mortality models for assessing basis risks and provide guidelines on how to use these models in practical situations paying particular attention to the data requirements for the appropriate calibration and forecasting of such models.

Publication Type: Article
Additional Information: This article has been published in a revised form in ASTIN Bulletin, http://doi:10.1017/asb.2017.18. This version is free to view and download for private research and study only. Not for re-distribution, re-sale or use in derivative works. © Astin Bulletin 2017
Subjects: H Social Sciences > HN Social history and conditions. Social problems. Social reform
Departments: Cass Business School > Actuarial Science & Insurance
URI: http://openaccess.city.ac.uk/id/eprint/17449
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