Defining Insurance as an Asset Class

Terry Flanagan

Providers of analytics are enabling annuity issuers to execute sophisticated hedging strategies and to implement valuation methods that capture real-world volatility dynamics, including correlation between asset classes.

Numerix’s cross-asset system, Leading Hedge, provides a unified platform for the most basic to exotic product designs including variable annuities, equity index annuities and hedging instruments.

“As a key investment vehicle designed for retirement savings and life event protection, life insurance plays a vital role providing retail and institutional market participants with mortality exposure for protection or as an uncorrelated investment vehicle,” said Ghali Boukfaoui, vice president and insurance product manager at Numerix. “Thus it’s critical that life insurance providers and investors manage aggregate mortality risk more efficiently.”

Numerix has launched a new “Life” asset class with the introduction of the Lee-Carter Stochastic Mortality Model. The new model will enhance capabilities for forecasting, quantifying and aggregating life expectancy within Numerix Leading Hedge, a platform for the risk management, product design, pricing, scenario generation and hedging of large blocks of insurance guarantees.

The Financial Stability Board (FSB) on July 18, 2013, designated nine large insurance groups as Global Systemically Important Insurers (G-SIIs), including three from the United States—American International Group, MetLife, and Prudential Financial.

In June, the Financial Stability Oversight Council (FSOC) voted to designate three non-bank Systemically Important Financial Institutions (SIFIs): AIG, General Electric Company’s GE Capital unit and Prudential Financial.

AIG and GE have accepted SIFI status; Prudential is currently contesting the designation. On July 16, 2013, MetLife was alerted that it will move to Phase III of the SIFI designation process. The FSB’s July designation of MetLife and Prudential as G-SIIs does not resolve whether those companies will be designated as SIFIs in the United States.

The International Association of Insurance Supervisors believes the potential for systemic risk in insurance becomes relevant when insurers deviate from the traditional insurance business model, and particularly when they engage in non-traditional insurance or non-insurance (NTNI) activities or as a result of interconnectedness with other financial firms.

“The differing risk appetites of regulators, on the one hand, and management and owners of insurers, on the other, have long led to regulatory arbitrage,” said Alice Kane, partner at law firm Duane Morris, in a blog posting. “The new policy measures for G-SIIs (and eventually for all insurers) are designed to eliminate this arbitrage. The downside would likely result in enhanced costs and potential competitive disadvantages for G-SIIs.”

Crucial in the pricing of long-dated guarantees in life insurance, pensions and annuities, the stochastic projection of mortality improvements will enable actuaries to better quantify longevity risk.

“With the stochastic projection of mortality improvements actuaries will be better equipped to quantify the longevity risk associated with underlying life liabilities,” said Steven O’Hanlon, CEO and president of Numerix. “Given a clearer picture of gains and losses from mortality improvements at different confidence levels, actuaries can model and price Life guarantees more realistically enabling more informed risk management decisions.”

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