Reverse mortgage (RM) products are growing increasingly popular in many developed countries. This article designs a tranching security to deal with longevity and house price risks for RM products. The securitisation structure for RM products, the collateralised reverse mortgage obligation (CRMO), is similar to that for the collateralised debt obligation (CDO). However, unlike the CDO, the CRMO takes into account the dynamics of future mortality rates and house price returns instead of the default rate. To capture longevity risk for RM borrowers, this study employs the CBD model to project future mortality rates, as well as compares these results with those from the Lee-Carter model and static mortality table. The house price return dynamics is modelled using an ARMA-GARCH process. The calculation of fair spreads of CRMO in different tranches is illustrated under the risk-neutral valuation framework. On the basis of mortality experience and the programme of Home Equity Conversion Mortgage in the United States, this research demonstrates the problems of using static mortality tables and models risk for pricing fair spreads for CRMO numerically. The Geneva Papers (2011) 36, 648-674. doi: 10.1057/gpp.2011.26
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GENEVA PAPERS ON RISK AND INSURANCE-ISSUES AND PRACTICE
