Optimal Longevity Risk Transfer and Investment Strategies

Samuel H. Cox, Yijia Lin and Sheen Liu

North American Actuarial Journal, 2021, vol. 25, issue S1, S40-S65

Abstract: Given the rising cost of maintaining defined benefit pensions, there has been a surge of activities in recent years by defined benefit plan sponsors to transfer their pension risk through strategies such as buy-ins and buy-outs. As buy-in and buy-out transaction pipelines grow, insurers actively participating in the buy-in and buy-out markets are exposed to significant longevity risk embedded in pension schemes. In this article, we investigate how to maximize a bulk annuity insurer’s value with reinsurance and/or longevity securities, subject to constraints that control longevity and investment risks as well as an overall risk. We apply duality and the martingale approach to derive an optimal longevity risk transfer strategy. Our results show that longevity risk transfer interacts with an insurer’s investment decision for value maximization. Our analysis also highlights the interdependence of different longevity risk management tools to achieve an overall risk target.

Date: 2021
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DOI: 10.1080/10920277.2019.1692617

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