A research project jointly commissioned by the IFoA and Life and Longevity Markets Association (LLMA) has unveiled a novel, readily applicable methodology allowing insurers and pension schemes to assess longevity basis risk. This groundbreaking work, carried out by a research team from Hymans Robertson and Cass Business School, will enable the use of simpler, more standardised and easier to execute index-based longevity solutions. There are also broader applications for insurers and pension funds in managing their capital requirements relating to longevity risk.
Index-based longevity swaps allow pension schemes and insurers to offset the risk of increased liabilities resulting from members living longer than expected. Until now, it has been difficult to assess how well an index-based longevity swap can reduce longevity risk for a particular pension scheme or insurance book. The methodology developed in this research advances thinking on how this is assessed.
The framework has been designed to be applicable to both large schemes (which can use their own data in their models) and smaller schemes (by capturing demographic differences such as socio-economic class and deprivation).
While the cost and complexity of longevity swaps means they have often been the preserve of large schemes, this research could make longevity swaps more accessible to smaller schemes and insurers in managing longevity risk. The development has the potential to transform the longevity swap market, which is worth £10bn per annum, opening it up to those for whom the current bespoke solutions have not proved appropriate. It is predicted that this work could provide the catalyst for growth in the still nascent market.
IFoA president Nick Salter said: "We are delighted with the outcome of this research."
The research paper can be read in full on the IFoA website here.