Pricing pension buy-outs under stochastic interest and mortality rates

Date

2018-01-01

Author

ARIK, AYŞE
Yolcu-Okur, Yeliz
ŞAHİN, ŞULE
Uğur, Ömür

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Pension buy-out is a special financial asset issued to offload the pension liabilities holistically in exchange for an upfront premium. In this paper, we concentrate on the pricing of pension buy-outs under dependence between interest and mortality rates risks with an explicit correlation structure in a continuous time framework. Change of measure technique is invoked to simplify the valuation. We also present how to obtain the buy-out price for a hypothetical benefit pension scheme using stochastic models to govern the dynamics of interest and mortality rates. Besides employing a non-mean reverting specification of the Ornstein-Uhlenbeck process and a continuous version of Lee-Carter setting for modeling mortality rates, we prefer Vasicek and Cox-Ingersoll-Ross models for short rates. We provide numerical results under various scenarios along with the confidence intervals using Monte Carlo simulations.

Subject Keywords

Change of Measure, Defined Benefit Pension Plan, Interest Rate Risk, Mortality Risk, Pension Buy-Out, Stochastic Models

URI

https://hdl.handle.net/11511/32668

Journal

SCANDINAVIAN ACTUARIAL JOURNAL

DOI

https://doi.org/10.1080/03461238.2017.1328370

Collections

Graduate School of Applied Mathematics, Article

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Citation Formats

A. ARIK, Y. Yolcu-Okur, Ş. ŞAHİN, and Ö. Uğur, “Pricing pension buy-outs under stochastic interest and mortality rates,” SCANDINAVIAN ACTUARIAL JOURNAL, pp. 173–190, 2018, Accessed: 00, 2020. [Online]. Available: https://hdl.handle.net/11511/32668.