The Market Consistent Approach, Updated

Dean and I have updated our work on the MC approach and have just issued a new Discussion Paper on the subject, ‘A Market Consistent Approach to the Valuation of No Negative Equity Guarantees and Equity Release Mortgages’.

To quote the abstract:

This paper provides a new market consistent approach to the valuation of No Negative Equity Guarantees and Equity Release Mortgages. The paper innovates in two respects. First, it provides a new treatment of net rental yields and deferment rates and a proof that the two are equal. Second, the paper provides a new approach to the estimation of the volatility inputs. The proposed approach to volatility produces a volatility term structure that is dependent on the age and gender of the borrower. Illustrative valuations are provided based on the Black ’76 put pricing formula and mortality projections based on the M5 Cairns-Blake-Dowd (CBD) mortality model. Results have interesting ramifications for industry practice and prudential regulation.

The word ‘interesting’ does a lot of the heavy lifting here.

We will be presenting the paper to David Blake’s Sixteenth International Longevity Risk and Capital Markets Solutions conference in Copenhagen in August.