Valuation of general GMWB annuities in a low interest rate environment

Claudio Fontana and Francesco Rotondi

Insurance: Mathematics and Economics, 2023, vol. 112, issue C, 142-167

Abstract: Variable annuities with Guaranteed Minimum Withdrawal Benefits (GMWB) entitle the policy holder to periodic withdrawals together with a terminal payoff linked to the performance of an equity fund. In this paper, we consider the valuation of a general class of GMWB annuities, allowing for step-up, bonus and surrender features, taking also into account mortality risk and death benefits. When dynamic withdrawals are allowed, the valuation of GMWB annuities leads to a stochastic optimal control problem, which we address here by dynamic programming techniques. Adopting a Hull-White interest rate model, correlated with the equity fund, we propose an efficient tree-based algorithm. We perform a thorough analysis of the determinants of the market value of GMWB annuities and of the optimal withdrawal strategies. In particular, we study the impact of a low/negative interest rate environment. Our findings indicate that low/negative rates profoundly affect the optimal withdrawal behaviour and, in combination with step-up and bonus features, increase significantly the fair values of GMWB annuities, which can only be compensated by large management fees.

Keywords: Variable annuity; Guaranteed minimum withdrawal benefit; Dynamic withdrawal; Step-up feature; Surrender; Stochastic interest rate; Hull-White model; Mortality risk (search for similar items in EconPapers)
JEL-codes: C61 C63 E43 G13 G22 (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:insuma:v:112:y:2023:i:c:p:142-167

DOI: 10.1016/j.insmatheco.2023.07.003

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