Information Matrix

I'm giving away rather too much information about my age when I say I started work in 1990 right after graduating from university. Not long into my first job at a UK insurer, I was called to a meeting of the actuarial department.

Longevity trend risk is different from most other risks an insurer faces because the risk lies in the long-term trajectory taken by mortality rates. This trend unfolds over many years as an accumulation of small changes.

If you'll forgive the nautical metaphor, forecasting longevity over the past few decades has proven to be anything but plain sailing. Those plotting a course with unshakable certainty have usually ended up storm-tossed and floating in a barrel.

When an insurer or reinsurer takes on a new insurance risk, there are two things of special interest: the best estimate of the risk and the tail risk.

Insurers need to have internal models for their major risks. Indeed, both the Individual Capital Assessment (ICA) regime in the UK and the pending Solvency II rules in the EU demand that insurers have good models for their risks.

Annuities are a good example of the cornerstone of actuarial work: discounting future probabilities of payment to allow for the time value of money.  Low interest rates have had major consequences for savers looking for income in retirement, but they are also one reason behind renewed actuarial focus on longevity in recent years.

Casual readers could be forgiven for thinking that pensions and annuities have a lot in common, and that they should therefore be regulated in a similar manner.  After all, both annuity portfolios and pension schemes are exposed to a host of similar risks, such as increased longevity.

Investors in longevity risk are particularly interested in extremes — they want to know the maximum loss they are likely to bear for a given probability.  Reinsurers can be even more strongly interested in extremes, especially if they have written stop-loss reinsurance. 

The Advocate General of the European Court has recently opined that "the use of actuarial factors based on sex is incompatible with the principle of equal treatment for men and women".

Last year Iain wrote about a smooth model to identify mortality shocks, using Swedish population data to illustrate the impact of the 1918 influenza pandemic.