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Insurance Professor Develops Pricing Models for Mortality-Linked Securities

Dr. Richard MacMinn, Edmondson-Miller Chair in Insurance and Financial Services at the College of Business at Illinois State University, working with colleagues Yinglu Deng and Patrick L. Brockett has developed a quantitative approach to measuring and managing longevity/mortality risk.  They were the first to develop a closed form solution for pricing longevity instruments.

Terms such as “longevity risk” and “mortality risk” have attracted the attention of insurance companies, annuity providers, pension funds, and investment banks. In their paper longevity risk is described as the risk that an individual or group will live a longer life than expected, while mortality risk is the risk that an individual or group will live a shorter life than expected. Improvements in longevity at older ages during the 20th century have challenged longevity risk management. On the other side of the mortality/longevity risk problem, many life insurers have become concerned about their potential exposure to catastrophic mortality risks , possibly caused by sudden influenza or other natural or man-made catastrophic sources.

Dr. Richard MacMinnA series of mortality-linked securities, for example, longevity bond, mortality bond, and other types of securities have been issued to manage and transfer the risk. Recently the market involving life settlement securitization has emerged wherein pricing depends on modeling the life expectancy of insurance policyholders. Hence, modeling and pricing mortality-linked securities is crucial to risk management, product innovation, and formation of a liquid intermediate market. This article proposed a quantitative model to price mortality-linked securities, and provided a possible approach to measuring and managing longevity/mortality risk. Marked improvement in life expectancy has attracted public attention to the finan-cial consequences of longevity risk on pension plans, long-term care insurance, and Social Security solvency. Longevity risk can also seriously affect the asset and li-ability balance of the pension fund and annuity providers. On the other side of the longevity/mortality market, life insurers have begun to show increased concern about increased mortality risk caused, for example, by sudden influenza or other natural or man-made catastrophic sources. A series of mortality-linked securities, for example, longevity bond, mortality bond, and other types of securities have been issued to manage and transfer the risk. Additionally, the recent market involving life settlement securitization whose pricing depends on modeling the life expectancy of insurance policyholders has boomed. Hence, modeling and pricing mortality-linked securities is crucial to risk management, product innovation, and formation of a liquid intermediate market. Marked improvement in life expectancy has attracted public attention to the finan-cial consequences of longevity risk on pension plans, long-term care insurance, and Social Security solvency.

Longevity risk can also seriously affect the asset and li-ability balance of the pension fund and annuity providers. On the other side of the longevity/mortality market, life insurers have begun to show increased concern about increased mortality risk caused, for example, by sudden influenza or other natural or man-made catastrophic sources. A series of mortality-linked securities, for example, longevity bond, mortality bond, and other types of securities have been issued to manage and transfer the risk. Additionally, the recent market involving life settlement securitization whose pricing depends on modeling the life expectancy of insurance policyholders has boomed. Hence, modeling and pricing mortality-linked securities is crucial to risk management, product innovation, and formation of a liquid intermediate market. They present a stochastic diffusion model with a double-exponential jump diffusion process that captures both asymmetric rate jumps up and down with the cohort effect in mortality trends. Finally, they calibrate their model with historical mortality rate data spanning years 1900–2004 and compare the relative performance of their models with similar models.

This work entitled ‘Longevity/Mortality Risk Modeling and Securities Pricing’ appeared in The Journal of Risk and Insurance, 2012, Vol. 79, No. 3, 697-721.

 

2019-09-11T09:30:33.204-05:00 2019