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Efficient versus inefficient hedging strategies in the presence of financial and longevity (value at) risk

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  • Elisa Luciano
  • Luca Regis

Abstract

This paper provides a closed-form Value-at-Risk (VaR) for the net exposure of an annuity provider, taking into account both mortality and interest-rate risk, on both assets and liabilities. It builds a classical risk- return frontier and shows that hedging strategies - such as the transfer of longevity risk - may increase the overall risk while decreasing expected returns, thus resulting in inefficient outcomes. Once calibrated to the 2010 UK longevity and bond market, the model gives conditions under which hedging policies become inefficient.

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Bibliographic Info

Paper provided by Collegio Carlo Alberto in its series Carlo Alberto Notebooks with number 308.

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Length: 27 pages
Date of creation: 2013
Date of revision:
Handle: RePEc:cca:wpaper:308

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  1. Elisa Luciano & Luca Regis & Elena Vigna, 2012. "Single and cross-generation natural hedging of longevity and financial risk," ICER Working Papers 04-2012, ICER - International Centre for Economic Research.
  2. Paolo, BATTOCCHIO & Francesco, MENONCIN & Olivier, SCAILLET, 2003. "Optimal asset allocation for pension funds under mortality risk during the accumulation and decumulation phases," Discussion Papers (IRES - Institut de Recherches Economiques et Sociales) 2003004, Université catholique de Louvain, Institut de Recherches Economiques et Sociales (IRES).
  3. Delong, Lukasz & Gerrard, Russell & Haberman, Steven, 2008. "Mean-variance optimization problems for an accumulation phase in a defined benefit plan," Insurance: Mathematics and Economics, Elsevier, vol. 42(1), pages 107-118, February.
  4. Hainaut, Donatien & Devolder, Pierre, 2007. "Management of a pension fund under mortality and financial risks," Insurance: Mathematics and Economics, Elsevier, vol. 41(1), pages 134-155, July.
  5. Samuel H. Cox & Yijia Lin & Ruilin Tian & Luis F. Zuluaga, 2013. "Mortality Portfolio Risk Management," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 80(4), pages 853-890, December.
  6. Dhaene, Jan & Kukush, Alexander & Luciano, Elisa & Schoutens, Wim & Stassen, Ben, 2013. "On the (in-)dependence between financial and actuarial risks," Insurance: Mathematics and Economics, Elsevier, vol. 52(3), pages 522-531.
  7. Robert Jarrow & Stuart Turnbull, 1994. "Delta, gamma and bucket hedging of interest rate derivatives," Applied Mathematical Finance, Taylor & Francis Journals, vol. 1(1), pages 21-48.
  8. Luciano, Elisa & Regis, Luca & Vigna, Elena, 2012. "Delta–Gamma hedging of mortality and interest rate risk," Insurance: Mathematics and Economics, Elsevier, vol. 50(3), pages 402-412.
  9. Biffis, Enrico & Blake, David, 2010. "Securitizing and tranching longevity exposures," Insurance: Mathematics and Economics, Elsevier, vol. 46(1), pages 186-197, February.
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