IDEAS home Printed from https://ideas.repec.org/a/eee/insuma/v72y2017icp36-48.html
   My bibliography  Save this article

Analytical valuation and hedging of variable annuity guaranteed lifetime withdrawal benefits

Author

Listed:
  • Feng, Runhuan
  • Jing, Xiaochen

Abstract

Variable annuity is a retirement planning product that allows policyholders to invest their premiums in equity funds. In addition to the participation in equity investments, the majority of variable annuity products in today’s market offer various types of investment guarantees, protecting policyholders from the downside risk of their investments. One of the most popular investment guarantees is known as the guaranteed lifetime withdrawal benefit (GLWB). In current market practice, the development of hedging portfolios for such a product relies heavily on Monte Carlo simulations, as there were no known closed-form formulas available in the existing actuarial literature. In this paper, we show that such analytical solutions can in fact be determined for the risk-neutral valuation and delta-hedging of the plain-vanilla GLWB. As we demonstrate by numerical examples, this approach drastically reduces run time as compared to Monte Carlo simulations. The paper also presents a novel technique of fitting exponential sums to a mortality density function, which is numerically more efficient and accurate than the existing methods in the literature.

Suggested Citation

  • Feng, Runhuan & Jing, Xiaochen, 2017. "Analytical valuation and hedging of variable annuity guaranteed lifetime withdrawal benefits," Insurance: Mathematics and Economics, Elsevier, vol. 72(C), pages 36-48.
  • Handle: RePEc:eee:insuma:v:72:y:2017:i:c:p:36-48
    DOI: 10.1016/j.insmatheco.2016.10.011
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0167668716303055
    Download Restriction: Full text for ScienceDirect subscribers only

    File URL: https://libkey.io/10.1016/j.insmatheco.2016.10.011?utm_source=ideas
    LibKey link: if access is restricted and if your library uses this service, LibKey will redirect you to where you can use your library subscription to access this item
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Feng, Runhuan & Volkmer, Hans W., 2014. "Spectral Methods For The Calculation Of Risk Measures For Variable Annuity Guaranteed Benefits," ASTIN Bulletin, Cambridge University Press, vol. 44(3), pages 653-681, September.
    2. Jingjiang Peng & Kwai Sun Leung & Yue Kuen Kwok, 2012. "Pricing guaranteed minimum withdrawal benefits under stochastic interest rates," Quantitative Finance, Taylor & Francis Journals, vol. 12(6), pages 933-941, October.
    3. Huang, H. & Milevsky, M.A. & Salisbury, T.S., 2014. "Optimal initiation of a GLWB in a variable annuity: No Arbitrage approach," Insurance: Mathematics and Economics, Elsevier, vol. 56(C), pages 102-111.
    4. Gerber, Hans U. & Shiu, Elias S.W. & Yang, Hailiang, 2012. "Valuing equity-linked death benefits and other contingent options: A discounted density approach," Insurance: Mathematics and Economics, Elsevier, vol. 51(1), pages 73-92.
    5. Fung, Man Chung & Ignatieva, Katja & Sherris, Michael, 2014. "Systematic mortality risk: An analysis of guaranteed lifetime withdrawal benefits in variable annuities," Insurance: Mathematics and Economics, Elsevier, vol. 58(C), pages 103-115.
    6. Shang, Zhaoning & Goovaerts, Marc & Dhaene, Jan, 2011. "A recursive approach to mortality-linked derivative pricing," Insurance: Mathematics and Economics, Elsevier, vol. 49(2), pages 240-248, September.
    7. Milevsky, Moshe A. & Salisbury, Thomas S., 2006. "Financial valuation of guaranteed minimum withdrawal benefits," Insurance: Mathematics and Economics, Elsevier, vol. 38(1), pages 21-38, February.
    8. N/A, 2007. "Statistical Appendix," National Institute Economic Review, National Institute of Economic and Social Research, vol. 199(1), pages 126-126, January.
    9. Kundu, Debasis, 1994. "Estimating the parameters of complex-valued exponential signals," Computational Statistics & Data Analysis, Elsevier, vol. 18(5), pages 525-534, December.
    10. N/A, 2007. "Statistical Appendix," National Institute Economic Review, National Institute of Economic and Social Research, vol. 199(1), pages 126-135, January.
    11. N/A, 2007. "Statistical appendix," National Institute Economic Review, National Institute of Economic and Social Research, vol. 201(1), pages 119-128, July.
    12. N/A, 2007. "Statistical Appendix," National Institute Economic Review, National Institute of Economic and Social Research, vol. 200(1), pages 118-127, April.
    13. Min Dai & Yue Kuen Kwok & Jianping Zong, 2008. "Guaranteed Minimum Withdrawal Benefit In Variable Annuities," Mathematical Finance, Wiley Blackwell, vol. 18(4), pages 595-611, October.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Feng, Runhuan & Yi, Bingji, 2019. "Quantitative modeling of risk management strategies: Stochastic reserving and hedging of variable annuity guaranteed benefits," Insurance: Mathematics and Economics, Elsevier, vol. 85(C), pages 60-73.
    2. Huang, Yiming & Mamon, Rogemar & Xiong, Heng, 2022. "Valuing guaranteed minimum accumulation benefits by a change of numéraire approach," Insurance: Mathematics and Economics, Elsevier, vol. 103(C), pages 1-26.
    3. Yaodi Yong & Hailiang Yang, 2021. "Valuation of Cliquet-Style Guarantees with Death Benefits in Jump Diffusion Models," Mathematics, MDPI, vol. 9(16), pages 1-21, August.
    4. Runhuan Feng & Peng Li, 2021. "Sample Recycling Method -- A New Approach to Efficient Nested Monte Carlo Simulations," Papers 2106.06028, arXiv.org.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Liang, Xiaoqing & Tsai, Cary Chi-Liang & Lu, Yi, 2016. "Valuing guaranteed equity-linked contracts under piecewise constant forces of mortality," Insurance: Mathematics and Economics, Elsevier, vol. 70(C), pages 150-161.
    2. Xing-Fang Huang & Ting Zhang & Yang Yang & Tao Jiang, 2017. "Ruin Probabilities in a Dependent Discrete-Time Risk Model With Gamma-Like Tailed Insurance Risks," Risks, MDPI, vol. 5(1), pages 1-14, March.
    3. García Nieto, P.J. & García-Gonzalo, E. & Sánchez Lasheras, F. & de Cos Juez, F.J., 2015. "Hybrid PSO–SVM-based method for forecasting of the remaining useful life for aircraft engines and evaluation of its reliability," Reliability Engineering and System Safety, Elsevier, vol. 138(C), pages 219-231.
    4. Ching-Sung Wu & Chih-Sheng Hsu, 2013. "Linking International High-Tech New Ventures' Firm Life Cycle To Internationalization, Organizational Learning, And Alliance Networks," Journal of Enterprising Culture (JEC), World Scientific Publishing Co. Pte. Ltd., vol. 21(02), pages 175-197.
    5. Dan Pirjol & Lingjiong Zhu, 2016. "Discrete Sums of Geometric Brownian Motions, Annuities and Asian Options," Papers 1609.07558, arXiv.org.
    6. Nane, Gabriela F. & Larivière, Vincent & Costas, Rodrigo, 2017. "Predicting the age of researchers using bibliometric data," Journal of Informetrics, Elsevier, vol. 11(3), pages 713-729.
    7. Shi, Li., 2008. "Rural migrant workers in China : scenario, challenges and public policy," ILO Working Papers 994204063402676, International Labour Organization.
    8. Lyons Russell, 2011. "The Spread of Evidence-Poor Medicine via Flawed Social-Network Analysis," Statistics, Politics and Policy, De Gruyter, vol. 2(1), pages 1-29, May.
    9. Moenig, Thorsten, 2021. "Variable annuities: Market incompleteness and policyholder behavior," Insurance: Mathematics and Economics, Elsevier, vol. 99(C), pages 63-78.
    10. Nieto, P.J. García & Fernández, J.R. Alonso & Suárez, V.M. González & Muñiz, C. Díaz & García-Gonzalo, E. & Bayón, R. Mayo, 2015. "A hybrid PSO optimized SVM-based method for predicting of the cyanotoxin content from experimental cyanobacteria concentrations in the Trasona reservoir: A case study in Northern Spain," Applied Mathematics and Computation, Elsevier, vol. 260(C), pages 170-187.
    11. Feng, Runhuan & Yi, Bingji, 2019. "Quantitative modeling of risk management strategies: Stochastic reserving and hedging of variable annuity guaranteed benefits," Insurance: Mathematics and Economics, Elsevier, vol. 85(C), pages 60-73.
    12. Bacinello, Anna Rita & Maggistro, Rosario & Zoccolan, Ivan, 2024. "Risk-neutral valuation of GLWB riders in variable annuities," Insurance: Mathematics and Economics, Elsevier, vol. 114(C), pages 1-14.
    13. Paolo Angelis & Roberto Marchis & Antonio L. Martire & Emilio Russo, 2022. "A flexible lattice framework for valuing options on assets paying discrete dividends and variable annuities embedding GMWB riders," Decisions in Economics and Finance, Springer;Associazione per la Matematica, vol. 45(1), pages 415-446, June.
    14. Ignatieva, Katja & Song, Andrew & Ziveyi, Jonathan, 2016. "Pricing and hedging of guaranteed minimum benefits under regime-switching and stochastic mortality," Insurance: Mathematics and Economics, Elsevier, vol. 70(C), pages 286-300.
    15. Claudio Fontana & Francesco Rotondi, 2022. "Valuation of general GMWB annuities in a low interest rate environment," Papers 2208.10183, arXiv.org, revised Aug 2023.
    16. Jin Sun & Pavel V. Shevchenko & Man Chung Fung, 2017. "A note on the impact of management fees on the pricing of variable annuity guarantees," Papers 1705.03787, arXiv.org, revised May 2017.
    17. Jin Sun & Pavel V. Shevchenko & Man Chung Fung, 2018. "The Impact of Management Fees on the Pricing of Variable Annuity Guarantees," Risks, MDPI, vol. 6(3), pages 1-20, September.
    18. Shevchenko, Pavel V. & Luo, Xiaolin, 2017. "Valuation of variable annuities with Guaranteed Minimum Withdrawal Benefit under stochastic interest rate," Insurance: Mathematics and Economics, Elsevier, vol. 76(C), pages 104-117.
    19. Runhuan Feng & Jan Vecer, 2017. "Risk based capital for guaranteed minimum withdrawal benefit," Quantitative Finance, Taylor & Francis Journals, vol. 17(3), pages 471-478, March.
    20. Pavel V. Shevchenko & Xiaolin Luo, 2016. "Valuation of Variable Annuities with Guaranteed Minimum Withdrawal Benefit under Stochastic Interest Rate," Papers 1602.03238, arXiv.org, revised Jan 2017.

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:insuma:v:72:y:2017:i:c:p:36-48. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/inca/505554 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.