On Using Equities to Produce Pension Payouts
32 Pages Posted: 22 Apr 2020 Last revised: 5 Jan 2021
Date Written: December 28, 2020
Is it possible to achieve almost riskless, nonfluctuating investment payoffs in the long run, at a fraction of the traditional funding requirement, using equity investments?
The persistence of low interest rates is spurring research on this question because of the need to increase yields, while limiting the variability of investment results.
Payouts of savings account units aim to achieve an almost riskless outcome over a long horizon.
We show that they can be managed as contingent claims and, when denominated in units of a stock index, less expensively than under classical risk-neutral assumptions.
To assess the robustness of the proposed hedge portfolios, we introduce a simple overfunded scheme and show its reliability using bootstrapping.
The results show that by applying an overfunding of 6%, the probability of not achieving the target is less than 1%.
At the heart of this result are the mean-reversion and the leverage effect of the minimal market model, together with the supermartingale property of the benchmarked savings account.
Keywords: Hedging, target date funds, dynamic investment policies
JEL Classification: G13, G14
Suggested Citation: Suggested Citation