LIVING WITH MORTALITY: LONGEVITY BONDS AND OTHERMORTALITY-LINKED SECURITIES
By D. Blake, A. J. G. Cairns and K. Dowd
[Presented to the Faculty of Actuaries, 16 January 2006]
This paper addresses the problem of longevity risk ö the risk of uncertain aggregatemortality ö and discusses the ways in which life assurers, annuity providers and pension planscan manage their exposure to this risk. In particular, it focuses on how they can use mortality-linked securities and over-the-counter contracts ö some existing and others still hypothetical öto manage their longevity risk exposures. It provides a detailed analysis of two such securities ö the Swiss Re mortality bond issued in December 2003 and the EIB/BNP longevity bondannounced in November 2004. It then looks at the universe of hypothetical mortality-linkedsecurities ö other forms of longevity bonds, swaps, futures and options ö and investigates theirpotential uses. It also addresses implementation issues, and draws lessons from the experiencesof other derivative contracts. Particular attention is paid to the issues involved with theconstruction and use of mortality indices, the management of the associated credit risks, andpossible barriers to the development of markets for these securities. It suggests that theseimplementation difficulties are essentially teething problems that will be resolved over time, andso leave the way open to the development of flourishing markets in a brand new class of securities.
Longevity Risk; Longevity Bonds; Mortality Swaps; Annuity Futures; Mortality Options;Mortality Swaptions; Survivor Caps; Mortality Indices; Liquidity; Basis Risk; Credit Risk
David Blake, Pensions Institute, Cass Business School, 106 Bunhill Row, London EC1Y 8TZ,U.K. Tel:+44 (0) 20 7040 5143; e-mail: D.Blake@city.ac.ukAndrew Cairns, Actuarial Mathematics and Statistics, School of Mathematical and ComputerSciences, Heriot-Watt University, Edinburgh EH14 4AS, U.K. Tel:+44 (0) 131 451 3245;e-mail: A.Cairns@ma.hw.ac.ukKevin Dowd, Centre for Risk and Insurance Studies, Nottingham University Business School,Jubilee Campus, Nottingham NG8 1BB, U.K. Tel:+44 (0) 115 846 6682;e-mail: Kevin.Dowd@nottingham.ac.uk
1.1.1 Benjamin Franklin once famously observed that nothing is certain
Institute of Actuaries and Faculty of Actuaries