Assessing Lapse Risk and Fair Market Value of Life Insurance Contracts with Surrender Guarantees

• Applicant: Professor Dr. Alexander Szimayer
• Subject Area: Accounting and Finance
• Term: from 2015 to 2019
• Project identifier: Deutsche Forschungsgemeinschaft (DFG) - Project number 282079427

The present proposal addresses the premature ending of life insurance contracts with surrender guarantees, also known as surrender or lapsing, and its effect on their fair market value. In addition to modelling the relevant financial and insurance risks, the focus is placed on the policyholder's surrender behavior. The policyholder is characterized by his access to financial market information and his ability to evaluate this information. In order to predict surrender behavior and to compute the fair contract value, the policyholder's best possible surrender strategy has to be identified. In this setting, surrender cannot occur at any time, but only at specific random points in time (optimal stopping at random intervention times). Due to different reasons, this promising method has not been adequately covered in literature. On the one hand, modelling becomes more demanding in this setting. On the other hand, numerical methods for estimating lapse rates and fair contract values require more complex techniques. The central point of the proposed project is a realistic and hence adequate modelling of surrender, as well as the development of a respective algorithm in order to make the model applicable in practice. The relevant regulation Solvency II, which is to be implemented in the near future, identifies lapse risk (in the given context: surrender risk) as a major risk factor and urges insurance companies to adequately model and quantify this risk. Further, Solvency II obliges insurance companies to perform related stress tests. Therefore, new results for more accurate modelling of lapse risk and the development of related numerical methods enhance the overall quality of risk measurement and risk management in this segment.

• DFG Programme: Research Grants
• International Connection: Australia
• Cooperation Partners: Privatdozent Dr. Boris Buchmann; Professor Ross Maller, Ph.D.