You are an advisor for a large pension fund. Real pension funds have liabilities (pensions) due...
Fantastic news! We've Found the answer you've been seeking!
Question:
Transcribed Image Text:
You are an advisor for a large pension fund. Real pension funds have liabilities (pensions) due at many dates in the future. For simplicity suppose that the pension fund you are advising has liabilities of $15 million coming due in 5 years and $25 million coming due in 15 years. Suppose that the yield curve is flat and all bonds have yields to maturity of 5% annually. (a) What is the duration of the liabilities of the fund? (b) Design an investment in a single zero coupon bond that shields the pension fund from small parallel shifts in the yield curve. Invest so that the pension fund is fully funded. (You are allowed to use a zero coupon bond that has a maturity that is not a whole number.) (c) Consider the asset position you constructed in part 6b. What is this position? What risk exposure is measured by the quantity "duration"? Does the fund face any of this risk? Why or why not? (d) Suppose that the pension fund is instead "underfunded." This means that the fund's assets do not cover the discounted value of the liabilities. In response, the managers of the pension fund would like to do some active management to increase returns. In particular they have no view on the direction of change in the Trea- sury yield curve but feel that corporate bonds are underpriced. In words only how might you design an active bond strategy to take advantage of the opportunities reflected in this view? You are an advisor for a large pension fund. Real pension funds have liabilities (pensions) due at many dates in the future. For simplicity suppose that the pension fund you are advising has liabilities of $15 million coming due in 5 years and $25 million coming due in 15 years. Suppose that the yield curve is flat and all bonds have yields to maturity of 5% annually. (a) What is the duration of the liabilities of the fund? (b) Design an investment in a single zero coupon bond that shields the pension fund from small parallel shifts in the yield curve. Invest so that the pension fund is fully funded. (You are allowed to use a zero coupon bond that has a maturity that is not a whole number.) (c) Consider the asset position you constructed in part 6b. What is this position? What risk exposure is measured by the quantity "duration"? Does the fund face any of this risk? Why or why not? (d) Suppose that the pension fund is instead "underfunded." This means that the fund's assets do not cover the discounted value of the liabilities. In response, the managers of the pension fund would like to do some active management to increase returns. In particular they have no view on the direction of change in the Trea- sury yield curve but feel that corporate bonds are underpriced. In words only how might you design an active bond strategy to take advantage of the opportunities reflected in this view?
Expert Answer:
Answer rating: 100% (QA)
a The duration of the liabilities of the pension fund can be calculated as the weighted average of the time until each liability payment is due weighted by the present value of each liability Using th... View the full answer
Related Book For
Intermediate Accounting Volume 1
ISBN: 9781260306743
7th Edition
Authors: Thomas H. Beechy, Joan E. Conrod, Elizabeth Farrell, Ingrid McLeod Dick
Posted Date:
Students also viewed these accounting questions
-
There are three assets, A, B and C, where A is the market portfolio and C is the risk-free asset. The return on the market has a mean of 12% and a standard deviation of 20%. The risk-free asset...
-
Managing Scope Changes Case Study Scope changes on a project can occur regardless of how well the project is planned or executed. Scope changes can be the result of something that was omitted during...
-
Many institutions have fixed future liabilities to meet (such as pension payments) and they fund these future liabilities using default-free fixed income securities. When discount bonds of all...
-
Answer the Multple Choice Questions and the code for problem 6in the end PROBLEM 1: General UNIX 1. What is UNIX? a) an operating system b) a text editor c) programming language d) software program...
-
Find the minimum value of (x, y) = (x 3)2 + (y 2)2 Starting at x = 1 and y = 1. Using the steepest descent method with a stopping criterion of s = 1%. Explain your results.
-
At what time is the current in the inductor 0.0010 times its initial value? In the circuit, switch S is opened at t = 0 after having been closed for a long time. 6.0 V S 12 ww 18 ell 30.30
-
For an irreversible process, the free energy is (a) - ve (b) + ve (c) 0 (d) None of these.
-
Was the purpose of the audit to exert cybernetic control, go/no-go control, or post-project control? Explain. MINI CASE It was July 2004. John West and Joy Adams had been through a lot since the...
-
Q1. Research the National quality standards and summarise three quality areas of the NQS that relates to consultation with children and environmental responsibility. Q2. Explain why children should...
-
A company wants to build a website where user can register themselves and buy/renew health insurance policies. Also, they can process claims from a separate section on the website. Once logged in,...
-
Explanation on your own Culture, Social and Personal Identities by providing supporting photos as evidence. How these identities have shaped the way you think, feel, and act in various situations....
-
Wilson Corporation is acquiring a new stamping machine at a cost of $400,000. The machine will produce annual cash flows of $77,000 over its 10-year useful life. Wilson's has the following finan-...
-
Given 1.25 USD/GBP, 106.25 JPY/USD and 135.75 JPY/GBP as quotes, you have 1mil loan form Chase Bank, what is your gross arbitrage profit?
-
Today is January 1, 2021. The EPS of a company as of December 31, 2020 was $1.50. The expected annual growth is constant at 5%. The annual discount rate is 4% above the annual rate of inflation. The...
-
A US importer, who incurs costs in CAD dollars and bills its customers in US Dollars (USD) is concerned about the depreciation of USD against CAD due to CAD payable of 10,000,000 in a month. To hedge...
-
B. Dr. Vichard is interested in buying ordinary shares of Open Book Ltd. Based on information available to him; he estimates that the company will pay the following dividends in the next five years....
-
K A person buys a phone for $89 and signs up for a single-line phone plan with 2000 monthly anytime minutes. The plan costs $118.97 per month. Write an equation that can be used to determine the...
-
Jax Incorporated reports the following data for its only product. The company had no beginning finished goods inventory and it uses absorption costing. $ 57.30 per unit $ 10.30 per unit $ 7.80 per...
-
SorCo. Inc. has just entered into a sale agreement with a customer. The contract is for $1,100,000. However, the payments will be made as follows: 1 August 20X1 on date of delivery $500,000; 1 August...
-
Pino Inc. is a BC based wine producer. In anticipation of a particularly bounteous grape harvest and a potential problem in obtaining a sufficient volume of shipping crates, Pino entered into a...
-
Leander Corp. reported the following items in its 20X5 financial statements:
-
Describe the quick return motion mechanism for a shaper.
-
What is the purpose of a drilling machine ? Explain its working principle.
-
How drilling machines are classified?
Study smarter with the SolutionInn App