Longevity Risk Management and the Development of a Life Annuity Market in

Australia

John Evans and Michael SherrisAustralian School of BusinessUniversity of New South WalesSydney, NSW, Australia, 2052

Longevity risk Products and Markets: Annuities, Deferred Annuities, Variable Annuities

Introduction

Risk Management for Longevity Risk ProductsInvestment

Mortality

Expenses

Long term interest rate, inflation, credit risk

Heterogeneity, systematic risk, reinsurance, hedging

Inflation and productivity

Interest rate risk Lack of longer term government bonds Limited inflation linked securities (infrastructure) Equity and asset swaps or options (downside protection) Lack of liquidity

Longevity Risk and Pooling Heterogeneity Adverse selection Pooling and systematic risk “Unknown/unknown” - wars, pandemics and disease Solvency and credit risk

Longevity Risk and Pooling

–Caution: Normal distribution of lifetime assumed

Dependence significantly reduces risk pooling efficiency

Independence – risk pooling efficient

– Correlation

– No of lives

– Indexed annuity value

–95% confidence age

Inflation risk Volatility and hedging Product design – CPI, full, fixed indexation, minimum, capped Demand and pricing

Role of Private Markets Product innovation Lack of hedging instruments (longevity, inflation, long term interest

rate) Capital and regulatory requirements (Solvency II, risk based) Expense and efficiency Mutual (Industry funds, Government) Shareholder (Retail funds, Insurers)

The Role of Government Private Market Support

Longevity/survivor bonds Inflation linked bonds

Longevity Indices JP Morgan Lifemetrics Deutsche Bourse Xpect indices Australian Government Actuary (population); APRA, ASX (annuitants)

The Role of Government Public provision

Immediate annuities or Deferred annuities Compulsory or optional Full, partial, minimum level Risk rating or community rating

Expense efficiencies Costs of capital and credit risks

Policy Options Private Sector: develops an annuity market with government

support to provide or organise hedging products for the major risks otherwise private sector can’t supply efficiently priced lifetime annuities attractive to retirees.

Public Sector: annuitisation compulsory for compulsory accumulation SGL retirement benefits, purchase price reflect differing longevity risks.

Private/Public Sector partnership: a private/public combination with the private sector providing annuities for fixed terms, such as until age 85 or earlier death and the public sector providing a (compulsory) deferred annuity from age 85 until death.

Questions and Discussion– Acknowledgements: Evans and Sherris. Longevity Management Issues for Australia's Future Tax System, Commissioned Paper Australia’s Future Tax System. Working Paper: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1585563