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Applications of Forward Mortality Factor Models in Life Insurance Practice*

Author

Listed:
  • Nan Zhu

    (Department of Risk Management and Insurance, Georgia State University, 35 Broad Street, 11th Floor, Atlanta, GA 30303, U.S. E-mails: nzhu1@student.gsu.edu; dbauer@gsu.edu)

  • Daniel Bauer

    (Department of Risk Management and Insurance, Georgia State University, 35 Broad Street, 11th Floor, Atlanta, GA 30303, U.S. E-mails: nzhu1@student.gsu.edu; dbauer@gsu.edu)

Abstract

Two of the most important challenges for the application of stochastic mortality models in life insurance practice are their complexity and their apparent incompatibility with classical life contingencies theory, which provides the backbone of insurers’ Electronic Data Processing systems. Forward Mortality Factor Models comprise one model class that overcomes these challenges. Relying on a simple model version that originates from a semi-parametric estimation based on British population mortality data, this paper demonstrates the merits of this model class by discussing several practically important example applications. In particular, we calculate the Economic Capital for a stylised life insurer, we present a closed-form solution for the value of a Guaranteed Annuity Option, and we derive the fair option fee for a Guaranteed Minimum Income Benefit within a Variable Annuity contract. Our numerical results illustrate the economic significance of systematic mortality risk.

Suggested Citation

  • Nan Zhu & Daniel Bauer, 2011. "Applications of Forward Mortality Factor Models in Life Insurance Practice*," The Geneva Papers on Risk and Insurance - Issues and Practice, Palgrave Macmillan;The Geneva Association, vol. 36(4), pages 567-594, October.
    • Handle: RePEc:pal:gpprii:v:36:y:2011:i:4:p:567-594
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    Citations

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    Cited by:

    1. Blake, David & Cairns, Andrew J.G., 2021. "Longevity risk and capital markets: The 2019-20 update," Insurance: Mathematics and Economics, Elsevier, vol. 99(C), pages 395-439.
    2. Blake, David & El Karoui, Nicole & Loisel, Stéphane & MacMinn, Richard, 2018. "Longevity risk and capital markets: The 2015–16 update," Insurance: Mathematics and Economics, Elsevier, vol. 78(C), pages 157-173.
    3. Stefan Tappe & Stefan Weber, 2019. "Stochastic mortality models: An infinite dimensional approach," Papers 1907.05157, arXiv.org.
    4. David Blake & Andrew Cairns & Guy Coughlan & Kevin Dowd & Richard MacMinn, 2013. "The New Life Market," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 80(3), pages 501-558, September.
    5. Bravo, Jorge M. & Nunes, João Pedro Vidal, 2021. "Pricing longevity derivatives via Fourier transforms," Insurance: Mathematics and Economics, Elsevier, vol. 96(C), pages 81-97.
    6. Stefan Tappe & Stefan Weber, 2014. "Stochastic mortality models: an infinite-dimensional approach," Finance and Stochastics, Springer, vol. 18(1), pages 209-248, January.
    7. Deelstra, Griselda & Grasselli, Martino & Van Weverberg, Christopher, 2016. "The role of the dependence between mortality and interest rates when pricing Guaranteed Annuity Options," Insurance: Mathematics and Economics, Elsevier, vol. 71(C), pages 205-219.

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