Longevity risk and hedging solutions

Abstract

Longevity risk-the risk of unanticipated increases in life expectancy-has only recently been recognized as a significant global risk that has materially raised the costs of providing pensions and annuities. We first discuss historical trends in the evolution of life expectancy and then analyze the hedging solutions that have been developed for managing longevity risk. One set of solutions has come directly from the insurance industry: Pension buyouts, buy-ins, and bulk annuity transfers. Another complementary set of solutions has come from the capital markets: Longevity swaps and q-forwards. This has led to hybrid solutions such as synthetic buy-ins. We then review the evolution of the market for longevity risk transfer, which began in the UK in 2006 and is arguably the most important sector of the broader "life market." An important theme in the development of the longevity market has been the innovation originating from the combined involvement of insurance, banking, and private equity participants.