The Tail Ends: Hedging against old age and other natural catastrophes

This dissertation is comprised of two essays examining two different topics that can be grouped under the rubric of risk management. The first examines estimation uncertainty and its implications for risk transfer at the corporate level and the price of that risk transfer. The second explores whether households are adequately preparing for the risks they face as they age. The past few years have seen the development and growth of traded securities with payoffs tied to natural and industrial disasters. Pricing the insurance features imbedded in these securities is difficult and imprecise. This lack of pricing precision translates to greater required return premiums to holders of these securities. The first essay explores the nature of pricing uncertainty for a number of datasets, security designs, and loss distributions using both jackknife and bootstrap techniques. The economic impact of pricing uncertainty is then briefly explored given comparisons of prices from secondary market trading to more common issues with similar risk characteristics and predictions from theoretical models. Using the Health and Retirement Study, the second essay explores asset holdings among a nationally representative sample of people on the verge of retirement. We assess how much more people would need to save in order to preserve consumption levels after retirement. We find that the median older household has current wealth of approximately $325,000 including pensions, social security, housing, and other financial wealth, an amount projected to grow to $380,000 by retirement at age 62. Nevertheless, our model suggests that this median household will still need to save 16% of annual earnings to preserve pre-retirement consumption. Delaying retirement to age 65, reduces required additional saving to 7% of earnings per year. These summary statistics conceals extraordinary heterogeneity in both assets and saving needs in the older population. Older high wealth households have 45 times more assets than the poorest decile and this disparity increases with age. There are also large differences in saving targets, ranging from 38% of annual earnings for those in the lowest wealth decile to negative rates for the wealthiest decile.

Gerontology (0351)

5017

ISBN 0-599-25937-X