Assessing basis risk in index-based longevity swap transactions

Jackie Li*, Johnny Siu-Hang Li, Chong It Tan, Leonie Tickle

*Corresponding author for this work

Research output: Contribution to journalArticle

5 Citations (Scopus)

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.

Original languageEnglish
Pages (from-to)166-197
Number of pages32
JournalAnnals of Actuarial Science
Volume13
Issue number1
Early online date4 Jul 2018
DOIs
Publication statusPublished - Mar 2019

Keywords

  • Longevity basis risk
  • Two-population mortality projection model
  • Index-based longevity hedging
  • Longevity swap
  • Hedge effectiveness

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