Is Fair Pricing Possible? An Analysis of Participating Life Insurance Portfolios

Abstract

Pooling individual customers with different inception dates into a single legal entity may generate intergenerational subsidies that are accentuated when the insurer has limited liability. This article aims to investigate whether an insurer can charge fair premiums while simultaneously ensuring identical levels of default risk—measured by the value of the default put option ratio—for all generations. The decision variables for achieving these goals are asset allocation and the amount of the insurer's equity capital. We propose an accounting framework where the insurer controls for insolvency positions annually after the first contract is issued. Additionally, a run‐off framework is developed where the insurer does not declare bankruptcy in case of an insolvency, but instead stops issuing new policies and runs the company until the assets are exhausted or the last policyholder is paid. We find that intergenerational subsidies and different levels of default risk per generation cannot be avoided whenever we face a positive default risk. © 2014 Wiley Periodicals, Inc. Jrl Fut Mark

On the Market-Consistent Valuation of Participating Life Insurance Heterogeneous Contracts under Longevity Risk

“…We propose a contingent claim model, along the lines of de Varenne (1994, 1997), for the valuation of the equity and the liabilities of a participating life insurance company. The pioneering model by de Varenne (1994, 1997) has been extended in several directions, e.g., by Grosen and Jørgensen (2002), Bernard et al (2005), Chen and Suchanecki (2007), Cheng and Li (2018), Bacinello et al (2018), Hieber et al (2019) or Orozco-Garcia and Schmeiser (2019), just to quote a few. In most of these papers, fair valuation is carried out for individual life insurance contracts with the exception of Hieber et al (2019), Orozco-Garcia and Schmeiser (2019) and Bacinello et al (2018).…”

“…The pioneering model by de Varenne (1994, 1997) has been extended in several directions, e.g., by Grosen and Jørgensen (2002), Bernard et al (2005), Chen and Suchanecki (2007), Cheng and Li (2018), Bacinello et al (2018), Hieber et al (2019) or Orozco-Garcia and Schmeiser (2019), just to quote a few. In most of these papers, fair valuation is carried out for individual life insurance contracts with the exception of Hieber et al (2019), Orozco-Garcia and Schmeiser (2019) and Bacinello et al (2018). Hieber et al (2019) show that individual insurance contracts with an annual guaranteed return can be incorporated into an existing portfolio, resulting in no wealth transfer between two groups.…”

Economic principles in pension design

“…This paper contributes to the literature of pension scheme design by combining two continuity criteria in the context of CDC pension schemes. First, we use the fairness definition of Boelaars and Broeders (2019), which is in line with the concept of fair contracts in the insurance literature (see, e.g., Grosen and Jørgensen (2002) and Orozco-Garcia and Schmeiser (2019)). 3 This definition implies that if a scheme is not fair, some cohorts could get a better riskreturn trade-off by investing directly in financial markets themselves.…”