Modeling pandemic mortality risk and its application to mortality-linked security pricing.

Area of Science:

• Actuarial Science
• Quantitative Finance
• Epidemiology

Background:

• Pandemics like the 1918 Spanish flu and COVID-19 pose significant mortality risks.
• Accurate pricing of mortality-linked securities requires models that capture pandemic dynamics.
• Existing models may not fully account for country-specific and global pandemic shocks.

Purpose of the Study:

• To introduce a novel mortality model for pricing mortality-linked securities under pandemic risk.
• To analyze the impact of pandemic mortality shocks on financial instruments.
• To provide a framework for adjusting pandemic mortality models to country-specific data.

Main Methods:

• A threshold jump approach is used to model pandemic mortality.
• The model incorporates both global pandemic shocks and country-specific mortality shocks.
• A closed-form solution is derived for a fixed-coupon mortality-linked bond.

Main Results:

• The proposed model quantifies pandemic mortality risk and its effect on security pricing.
• Numerical analysis is performed by fitting the model to data from the US, England and Wales, France, Italy, and Switzerland.
• The fair spread for a mortality-linked bond under pandemic risk is calculated.

Conclusions:

• The developed mortality model offers insights into managing pandemic mortality risk in financial markets.
• The study provides a quantitative method for pricing mortality-linked bonds in a pandemic scenario.
• The findings are relevant for insurers, investors, and policymakers dealing with pandemic-related financial risks.