Annals of Actuarial Science · 2018 · 23 citations · 18 references
ManagementFinanceFinancial ManagementFinancial EconomicsRisk AnalysisRisk AssessmentBasis RiskHedgingLongevityMarket RiskPortfolio Risk ManagementRisk-return AnalysisBasis Risk DecompositionBasis Risk ForecastingLongevity Risk AnalysisLongevity Risk AssessmentLongevity Risk ModelingLongevity Swap StructuresModeling Basis RiskSwap-based Hedging
Abstract In this paper, we carry out an investigation on modelling basis risk and measuring risk reduction in a longevity hedge constructed by index-based longevity swaps. We derive the fitting procedures of the M7-M5 and common age effect+Cohorts models and define the level of longevity risk reduction. Based on a wide range of hedging scenarios of pension plans, we find that the risk reduction levels are often around 50%–80% for a large plan, while the risk reduction estimates are usually smaller than 50% for a small plan. Moreover, index-based hedging looks more effective under a more precise hedging scheme. We also perform a detailed sensitivity analysis on the hedging results. The most important modelling features are the behaviour of simulated future variability, portfolio size, speed of reaching coherence, data size and characteristics, simulation method, and mortality structural changes.
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