Risk management of variable annuities

Abstract

Variable annuities are unit-linked life insurance contracts where typically an initial investment amount is invested in one or several mutual funds. On top of this basic structure, certain guarantee riders are offered by the insurer, adding different types of financial protection to the contract. Therefore, variable annuities allow policyholders to benefit from the upside potential of the underlying fund investment and, at the same time, offer some kind of protection when the fund loses value. From a risk manager’s perspective, the complexity of the guarantees offered within variable annuities also means that there are several main risks that need to be managed at the same time, including financial risk, behavioral risk, biometric risk, and regulatory risk. These risks are accompanied by a variety of additional risks that come with most insurance contracts (e.g. operational and reputational risk) and are amplified by the usually very long term of annuity contracts. In this thesis, the following research questions are addressed: (1) From a variable annuity provider's perspective, how does policyholder behavior impact the risk profile (before and after hedging) of a pool of variable annuities with guaranteed lifetime withdrawal benefit (GLWB) riders under different assumptions regarding the product design of the GLWB riders? (2) What is the impact of regulator-imposed guaranteed minimum surrender benefits on the risk profile of existing contracts and how are new contracts affected? (3) How do the risk profile and the impact of mandatory guaranteed minimum surrender benefits change if institutional investors buy contracts from policyholders who are willing to surrender their contract? (4) How do risk-based capital requirements for a pool of variable annuities with GLWB riders change depending on the market environment and the level of recognition of the actual hedging program?