Insurers and reinsurers must encourage capital markets to invest in long-term funding for longevity, according to Swiss Re.

While life expectancy is increasing globally, insurer-run pension fund schemes are underfunded, it says in a report on building capital markets for longevity risk.

According to actuaries Towers Watson, the average scheme is underfunded by 24%, with assets exposed to longevity risks totalling $US23 trillion ($22 trillion) globally. By comparison, assets held by the global insurance industry to cover non-life risks, including natural catastrophes, amount to $US2.6 trillion ($2.5 trillion).

The problem facing life insurers is aggravated by the impact on capital of low interest rates and poor investment returns.

Life insurance companies are offering annuities and longevity insurance, sometimes called indemnity longevity swaps, to clients.

“Due to their ability to partly diversify the risk against their mortality portfolios, reinsurers are particularly well placed to take on longevity risk,” the Swiss Re report says.

“Recent years have seen increases in longevity insurance, where a reinsurer assumes the risk of a specific pension group living longer than expected, thus removing the longevity risk from the pension fund.”

But Swiss Re warns that while current longevity demand falls within reinsurers’ annual capacity targets, the scale of exposure means this will not be the case in the long term.

It means there is an increasing need for ways to extend insurance industry capacity and ensure a sustainable funding system for longer lives.

“A capital market for longevity risk will be vital for the insurance industry in the long term,” Swiss Re Head of Life and Health Reinsurance Alison Martin said. “As the scale of the risk is so vast, capacity is unlikely to meet the future demand for longevity products without a capital market.”

The report says longevity capital investments will not develop until investor awareness is increased.

“This would involve a number of stakeholders in the industry finding new investors interested in longevity-linked assets,” it says. “In the meantime, the market will need a number of buy-and-hold investors who have a long-term view in order to bridge the gap between the current situation and the eventual development of a liquid market.”

As investors look for the best returns, dividends on longevity investments will need to be attractive, the report says.

“Insurance companies, some specialised funds and hedge funds have the potential to drive the initial phase of this market’s development.

“The development of a liquid market will be greatly aided once more widely accepted, independent risk models become publicly available. This will enable investors to build more knowledge about longevity risk.”