Cumulative Prospect Theory and Deferred Annuities

Chen, A., Haberman, S. & Thomas, S. (2017). Cumulative Prospect Theory and Deferred Annuities. Review of Behavioural Finance,

[img] Text - Accepted Version
Restricted to Repository staff only

Download (297kB) | Request a copy

Abstract

Purpose – Although it has been proved theoretically that annuities can provide optimal consumption during one’s retirement period, retirees’ reluctance to purchase annuities is a long-standing puzzle. The purpose of this paper is to use behavioral model to analyse the low demand for immediate annuities.

Design/methodology/approach – The authors employ Cumulative Prospect Theory (CPT), which contains both loss aversion and probability transformations, to analyse the annuity puzzle.

Findings – The authors show that Cumulative Prospect Theory (CPT) can explain the unattractiveness of immediate annuities. It also shows that retirees would be willing to buy a long-term deferred annuity at retirement. By considering each component from CPT in turn, the loss aversion is found to be the major reason that stops people from buying an annuity; while the survival rate transformation is an important factor affecting the decision of when to receive annuity incomes.

Originality/value – This paper identifies CPT as one of the reasons for the low demand of immediate annuities. It further suggests that long-term deferred annuities could overcome behavioral obstacles and become popular among retirees.

Item Type: Article
Additional Information: Published by Emerald 2017.
Divisions: Cass Business School > Faculty of Actuarial Science & Insurance
Cass Business School > Faculty of Finance
URI: http://openaccess.city.ac.uk/id/eprint/18553

Actions (login required)

View Item View Item

Downloads

Downloads per month over past year

View more statistics