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DISCUSSION PAPER PI-1511

Forward Mortality Rates in Discrete Time I: Calibration and Securities Pricing

Andrew Hunt and David Blake

Abstract

Many users of mortality models are interested in using them to place values on longevity-linked liabilities and sec urities. Modern reg ulatory regimes require that the values of liabilities and reserves are consistent with market prices (if available), whilst the gradual emergencies of a traded market in longevity risk needs methods for pricing new types of longevity-linked securities quickly and efficiently. In this study, we develop a new forward mortality framework to enable the efficient pricing of longevity-linked liabilities and securities in a market-consistent fashion. This approach starts from the historicall data of the observed mortality rates, i.e., the force of mortality. Building on the dynamics of age/period/cohort models of the observed force of mortality, we develop models of forward mortality rates and then use a change of measure to incorporate whatever market information is available. The resulting forward mortality rates are then used to value a number of different longevity-linked securities, such as q-forwards, s-forwards and longevity swaps.

Keywords: Mortality modelling, age/period/c ohort models, forward mortality rates, Essc her transform, longevity-linked securities