In the following spreadsheet, I have outlined a liability that you have as a pension manager. Basically, you are going to pay $1 mm a year in pension costs, starting in 15 years and going for 35 years. In the spreadsheet, I have also listed yields for STRIPS (zero coupon government bonds) for various maturities. What is the DV01 of your liability? How much would you need to invest in the STRIPS to defease your liability? IIIIIII IIIIIIIIIIIIII Suppose the longest STRIP you could buy in the prior example was a 40-year maturity. What could you do to hedge your pension risk? What if you were cash constrained? You could only spend as much as the PV of the liability. What is the best thing you could do now? What is the risk to this strategy? B C D E F G NM in N 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 Pension Payment STRIPS Yield 1 0.20% 2 0.25% 3 0.30% 4 0.35% 5 0.40% 6 0.45% 7 0.50% 8 0.55% 9 0.60% 10 0.65% 11 0.70% 12 0.75% 13 0.80% 14 0.85% 15 0.90% 16 1,000,000 1.00% 17 1,000,000 1.05% 18 1,000,000 1.10% 19 1,000,000 1.15% 20 1,000,000 1.20% 21 1,000,000 1.25% 22 1,000,000 1.30% 23 1,000,000 1.35% 24 1,000,000 1.40% 25 1,000,000 1.45% A B C D E F G 33 34 35 36 37 38 39 40 29 30 31 32 33 34 35 36 37 38 39 40 41 41 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 42 43 44 45 46 47 48 49 50 51 52 53 54 1.65% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 42 43 44 45 46 47 48 49 50 In the following spreadsheet, I have outlined a liability that you have as a pension manager. Basically, you are going to pay $1 mm a year in pension costs, starting in 15 years and going for 35 years. In the spreadsheet, I have also listed yields for STRIPS (zero coupon government bonds) for various maturities. What is the DV01 of your liability? How much would you need to invest in the STRIPS to defease your liability? IIIIIII IIIIIIIIIIIIII Suppose the longest STRIP you could buy in the prior example was a 40-year maturity. What could you do to hedge your pension risk? What if you were cash constrained? You could only spend as much as the PV of the liability. What is the best thing you could do now? What is the risk to this strategy? B C D E F G NM in N 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 Pension Payment STRIPS Yield 1 0.20% 2 0.25% 3 0.30% 4 0.35% 5 0.40% 6 0.45% 7 0.50% 8 0.55% 9 0.60% 10 0.65% 11 0.70% 12 0.75% 13 0.80% 14 0.85% 15 0.90% 16 1,000,000 1.00% 17 1,000,000 1.05% 18 1,000,000 1.10% 19 1,000,000 1.15% 20 1,000,000 1.20% 21 1,000,000 1.25% 22 1,000,000 1.30% 23 1,000,000 1.35% 24 1,000,000 1.40% 25 1,000,000 1.45% A B C D E F G 33 34 35 36 37 38 39 40 29 30 31 32 33 34 35 36 37 38 39 40 41 41 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 1,000,000 42 43 44 45 46 47 48 49 50 51 52 53 54 1.65% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 1.70% 42 43 44 45 46 47 48 49 50