Jump to ContentJump to Main Navigation
Show Summary Details
More options …

Asia-Pacific Journal of Risk and Insurance

The Official Journal of the Asia-Pacific Risk and Insurance Association

Editor-in-Chief: Kwon, W. Jean

2 Issues per year

See all formats and pricing
More options …

Risk Analysis for Reverse Mortgages with Different Payout Designs

Daniel Cho / Katja Hanewald
  • Corresponding author
  • Australian School of Business, University of New South Wales – ARC Centre of Excellence in Population Ageing Research (CEPAR), Sydney, New South Wales 2052, Australia
  • Email
  • Other articles by this author:
  • De Gruyter OnlineGoogle Scholar
/ Michael Sherris
Published Online: 2015-01-30 | DOI: https://doi.org/10.1515/apjri-2014-0012


We analyze the risk and profitability of reverse mortgages with lump-sum or income stream payments from the lender’s perspective. Reverse mortgage cash flows and loan balances are modeled in a multi-period stochastic framework that allows for house price risk, interest rate risk and risk of delayed loan termination. A vector autoregressive (VAR) model is used to simulate economic scenarios and to derive stochastic discount factors for pricing the no negative equity guarantee embedded in reverse mortgage contracts. Our results show that lump-sum reverse mortgages are more profitable and require less risk-based capital than income stream reverse mortgages, which explains why this product design dominates in most markets. The loan-to-value ratio, the borrower’s age, mortality improvements and the lender’s financing structure are shown to be important drivers of the profitability and riskiness of reverse mortgages, but changes in these parameters do not change the main conclusions.

Keywords: reverse mortgage; income stream; equity release; vector autoregressive model; stochastic discount factor; risk-based capital

JEL Classification: G12; G21; G32


  • Alai, D. H., H. Chen, D. Cho, K. Hanewald, and M. Sherris. 2014. “Developing Equity Release Markets: Risk Analysis for Reverse Mortgages and Home Reversions.” North American Actuarial Journal 18(1):217–41.CrossrefGoogle Scholar

  • Ang, A., and M. Piazzesi. 2003. “A No-Arbitrage Vector Autoregression of Term Structure Dynamics with Macroeconomic and Latent Variables.” Journal of Monetary Economics50(4):745–87.CrossrefGoogle Scholar

  • Ang, A., M. Piazzesi, and M. Wei. 2006. “What Does the Yield Curve Tell Us About GDP Growth?” Journal of Econometrics 131(1):359–403.CrossrefGoogle Scholar

  • Calem, P. S., and M. LaCour-Little. 2004. “Risk Based Capital Requirements for Mortgage Loans.” Journal of Banking & Finance 28(3):647–72.Web of ScienceCrossrefGoogle Scholar

  • Chen, H., S. H. Cox, and S. S. Wang. 2010. “Is the Home Equity Conversion Mortgage in the United States Sustainable? Evidence from Pricing Mortgage Insurance Premiums and Non-Recourse Provisions Using Conditional Escher Transform.” Insurance: Mathematics and Economics 46(2):371–84.Web of ScienceGoogle Scholar

  • Chinloy, P., and I. F. Megbolugbe. 1994. “Reverse Mortgages: Contracting and Crossover Risk.” Real Estate Economics 22(2):367–86.CrossrefGoogle Scholar

  • Chiuri, M., and T. Jappelli. 2010. “Do the Elderly Reduce Housing Equity? An International Comparison.” Journal of Population Economics 23(2):643–63.CrossrefWeb of ScienceGoogle Scholar

  • Clerc-Renaud, S., E. Pérez-Carillo, A. Tiffe, and U. Reifner. 2010. Equity Release Schemes in the European Union. Norderstedt: Books on Demand.Google Scholar

  • Collett, J. 2014. “Centrelink Reverse Mortgage Scheme is Just for the Wealthy.” The Sydney Morning Herald. October 8, 2014. Accessed November 9, 2014. http://www.smh.com.au/money/super-and-funds/centrelink-reverse-mortgage-scheme-is-just--for-the-wealthy-20141002-10p4tt.html

  • Consumer Financial Protection Bureau. 2012. Report to Congress on Reverse Mortgages. Iowa City, IA: Consumer Financial Protection Bureau.Google Scholar

  • Deloitte and SEQUAL. 2012. “Media Release: Australia’s Reverse Mortgage Market Reaches $3.3bn at 31 December 2011.” Deloitte Australia and Senior Australians Equity Release (SEQUAL).Google Scholar

  • Denniss, R., and T. Swann. 2014. “Boosting Retirement Incomes the Easy Way – Extending the Pension Loan Scheme to All Retirees.” The Australia Institute – Technical Brief No. 34.Google Scholar

  • Gompertz, B. 1825. “On the Nature of the Function Expressive of the Law of Human Mortality, and on a New Mode of Determining the Value of Life Contingencies.” Royal Society of London Philosophical Transactions Series I 115:513–83.CrossrefGoogle Scholar

  • Hickey, J. 2012. “Deloitte/SEQUAL Reverse Mortgage Survey 2011.” Deloitte Touché Tohmatsu.Google Scholar

  • Horneff, W. J., R. H. Maurer, O. S. Mitchell, and M. Z. Stamos. 2009. “Asset Allocation and Location over the Life Cycle with Investment-Linked Survival-Contingent Payouts.” Journal of Banking & Finance 33(9):1688–99.Web of ScienceCrossrefGoogle Scholar

  • Horneff, W., R. Maurer, and R. Rogalla. 2010. “Dynamic Portfolio Choice with Deferred Annuities.” Journal of Banking & Finance 34(11):2652–64.CrossrefWeb of ScienceGoogle Scholar

  • Hosty, G. M., S. J. Groves, C. A. Murray, and M. Shah. 2008. “Pricing and Risk Capital in the Equity Release Market.” British Actuarial Journal 14(1):41–91.CrossrefGoogle Scholar

  • Human Mortality Database. 2012. “University of California, Berkeley (USA), and Max Planck Institute for Demographic Research (Germany).” Accessed July 3, 2012. www.mortality.org or www.humanmortality.de

  • Institute of Actuaries UK. 2005. “Equity Release Report 2005, Volume 2: Technical Supplement: Pricing Considerations.” Institute of Actuaries, UK- Equity Release Working Party.Google Scholar

  • Ji, M., M. Hardy, and J. S.-H. Li. 2012. “A Semi-Markov Multiple State Model for Reverse Mortgage Terminations.” Annals of Actuarial Science 6(2):235–57.CrossrefGoogle Scholar

  • Key Retirement Solutions. 2013. “UK Equity Release Market Monitor - 2012 Review.” Preston: Key Retirement Solutions.Google Scholar

  • Lee, Y.-T., C.-W. Wang, and H.-C. Huang. 2012. “On the Valuation of Reverse Mortgages with Regular Tenure Payments.” Insurance: Mathematics and Economics 51(2):430–41.Web of ScienceGoogle Scholar

  • Li, J. S.-H., M. Hardy, and K. Tan. 2010. “On Pricing and Hedging the No-Negative-Equity Guarantee in Equity Release Mechanisms.” Journal of Risk and Insurance 77(2):499–522.Web of ScienceGoogle Scholar

  • Nelson, C., and A. Siegel. 1987. “Parsimonious Modeling of Yield Curves.” Journal of Business 60(3):473–89.CrossrefGoogle Scholar

  • Olivieri, A., and E. Pitacco. 2011. Introduction to Insurance Mathematics. Springer-Verlag Berlin Heidelberg.Google Scholar

  • Pelizzon, L., and G. Weber. 2009. “Efficient Portfolios When Housing Needs Change over the Life Cycle.” Journal of Banking & Finance 33(11):2110–21.Web of ScienceCrossrefGoogle Scholar

  • Qi, M., and X. Yang. 2009. “Loss Given Default of High Loan-to-Value Residential Mortgages.” Journal of Banking & Finance 33(5):788–99.Web of ScienceCrossrefGoogle Scholar

  • Shao, A. W., M. Sherris, and K. Hanewald. 2012. “Equity Release Products Allowing for Individual House Price Risk.” In Proceedings of the 11th Emerging Researchers in Ageing Conference, Brisbane, November 19–20, 2012.Google Scholar

  • Shao, A. W., M. Sherris, and K. Hanewald. 2014. “Reverse Mortgage Pricing and Risk Analysis Allowing for Idiosyncratic House Price Risk and Longevity Risk.” UNSW Australian School of Business Research Paper No. 2014ACTL01.Google Scholar

  • Sherris, M., and D. Sun. 2010. “Risk Based Capital and Pricing for Reverse Mortgages Revisited.” UNSW Australian School of Business Research Paper No. 2010ACTL04.Google Scholar

  • Venti, S., and D. Wise. 1991. “Aging and the Income Value of Housing Wealth.” Journal of Public Economics 44(3):371–97.CrossrefGoogle Scholar

  • Wyman, O. 2008. “Move Beyond the HECM in Equity Release Markets?” Oliver Wyman Financial Services.Google Scholar

About the article

Published Online: 2015-01-30

Published in Print: 2015-01-01

Funding: Australian Research Council, (Grant / Award Number: ‘Centre of Excellence in Population Ageing Research’, ‘Linkage Grant Project LP0883398’).

Citation Information: Asia-Pacific Journal of Risk and Insurance, Volume 9, Issue 1, Pages 77–105, ISSN (Online) 2153-3792, ISSN (Print) 2194-606X, DOI: https://doi.org/10.1515/apjri-2014-0012.

Export Citation

©2015 by De Gruyter.Get Permission

Comments (0)

Please log in or register to comment.
Log in