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The Impact of Mortality Risk on the Asset and Liability Management of Insurance Companies

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Published/Copyright: July 5, 2013
Asia-Pacific Journal of Risk and Insurance
From the journal Asia-Pacific Journal of Risk and Insurance Volume 7 Issue 2

Abstract

In this paper, we investigate the change in mortality rate and its impact on annuity liabilities using the Lee-Carter model. Our findings suggest that the insurer suffers a higher risk of insolvency if macroeconomic factors are used in forecasting mortality rates. A hybrid actuarial model, which consists of both annuity and life insurance, is employed to assess an opportunity for natural hedging. We examine the insurer’s insolvency probability while controlling for impact factors, such as the equity contribution, investment allocation and dividend policy. Insurers – who have both life insurance and annuity liabilities – tend to suffer a balanced, lower financial risk and also tend to be more competitive in the market, thus providing the insurer with a natural hedging opportunity to improve financial stability.

Keywords: mortality; asset and liability; annuity

Acknowledgement

The author wishes to acknowledge the indebtedness to Katja Hanewald and Prof. Dr. Thomas Post for sharing the original model of term life insurance and mortality table. Their advice to my research work is valuable. In addition, Prof. Dr. Helmut Gründl provides helpful comments on this paper. All errors remain my own.

References

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  1. 1

    “Provision” is the term used in annuity liabilities and it is equal to “Reserves”, which is the term used in term life insurance.

  2. 2
  3. 3

    By virtue of the function of pension, annuity liabilities payment normally starts from the age which is getting close to retirement and last a longer period than the natural life expectancy. That is the major reason why we examine the insurer’s insolvency probability up to 35 years.

  4. 4

    The “Demography” package, an add-on for R, is developed by Hyndman.

  5. 5

    The correlation matrix is provided by Katja Hanewald.

  6. 6

    The original parameter table is contributed by Dr. Katja Hanewald and Dr. Thomas Post.

  7. 7

    If we keep all the parameters the same, the insolvency probability under a deterministic bond return, which is used as the discounting rate, is much lower than the one under a stochastic discounting rate.

  8. 8

    In the calculation of variance of discounted liabilities, both two terms in the equation stem from systematic mortality risk and only the first one stems from unsystematic mortality risk. For this reason, we argue that systematic mortality risk is the predominant factor in computing liabilities.

  9. 9

    If the equity holders contribute 10% of the premiums, the insolvency probability is approximately 40%, which is a rather high value and not acceptable in real business. Therefore we choose the initial capital-to-asset ratio to be 0.3 so the insurer bears a reasonable insolvency risk.

  10. 10

    Hari et al. (2008) compared different hedge strategies for annuity liabilities and argued that if the market risk is taken into account, the mortality risk is less significant. This trend increases with the proportion of stock investment in the total portfolio.

Published Online: 2013-07-05

© 2013 by Walter de Gruyter Berlin / Boston

Articles in the same Issue

  1. Masthead
  2. Featured Article
  3. Measuring U.S. Hurricane Risk Associated with Natural Climate Cycle and Global Warming Effects
  4. Insurance Group Risk Management Model for the Next-Generation Solvency Framework
  5. Analysis of the Residual Structure of the Lee–Carter Model: The Case of Japanese Mortality
  6. The Impact of Mortality Risk on the Asset and Liability Management of Insurance Companies
  7. Pricing Equity Index Annuities with Surrender Options in Four Models
  8. The Asymptotic Ruin Problem in Health Care Insurance with Interest
https://doi.org/10.1515/apjri-2012-0018
Keywords for this article
mortality; asset and liability; annuity

Articles in the same Issue

  1. Masthead
  2. Featured Article
  3. Measuring U.S. Hurricane Risk Associated with Natural Climate Cycle and Global Warming Effects
  4. Insurance Group Risk Management Model for the Next-Generation Solvency Framework
  5. Analysis of the Residual Structure of the Lee–Carter Model: The Case of Japanese Mortality
  6. The Impact of Mortality Risk on the Asset and Liability Management of Insurance Companies
  7. Pricing Equity Index Annuities with Surrender Options in Four Models
  8. The Asymptotic Ruin Problem in Health Care Insurance with Interest
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