Heterogeneity of Australian Population Mortality and Implications for a Viable Life Annuity Marketfredag, 13 juni 2014
Heterogeneity in mortality rates is known to exist in populations, undermining the use of age and sex as the only rating factors for life insurance and annuity products. Life insurers underwrite life products using a variety of rating factors to allow for this heterogeneity.
In the case of life annuities, there is limited underwriting used. Life insurers rely on an assumption that lives will self select and price the longevity risk with an annuity mortality table that assumes above average longevity. This leads to annuities being less attractive to awide range of individuals, and limits the ability of private annuity markets to meet longevity risk product needs of a large part of the population. There is an increasing use of rating for life annuity pricing such as impaired annuities and postcode underwriting in the UK. In order to fairly price life annuities and support a broader life annuity market, a better understanding of the extent of heterogeneity in population mortality is required. This paper applies well established frailty models and more recently developed Markov models to quantify the extent of heterogeneity in Australian population mortality. The results confirm significant heterogeneity exists. The impact of heterogeneity on life annuity rates and pension costs provides a compelling case for identifying and quantifying more explicitly the factors that determine mortality heterogeneity, particularly at the older ages, including hereditary, socio-economic, and health factors as well as personal habits.