Optimal Investment Strategies for Pension Funds with Regulation-Conform Dynamic Pension Payment Management in the Absence of Guarantees

European Actuarial Journal

35 Pages Posted: 23 Nov 2020 Last revised: 1 Nov 2021

See all articles by Andreas Lichtenstern

Andreas Lichtenstern

Technische Universität München (TUM) - Chair of Mathematical Finance

Rudi Zagst

Technische Universität München (TUM) - Chair of Mathematical Finance

Date Written: September 18, 2020

Abstract

In this article we consider the post-retirement phase optimization problem for a specific pension product in Germany that comes without guarantees. The continuous-time optimization problem is defined consisting of two specialties: first, we have a product-specific pension adjustment mechanism based on a certain capital coverage ratio which stipulates compulsory pension adjustments if the pension fund is underfunded or significantly overfunded, and second, due to the retiree's fear of and aversion against pension reductions, we introduce a total wealth distribution to an investment portfolio and a buffer portfolio to lower the probability of future potential pension shortenings. Due to the inherent complexity of the continuous-time framework, the discrete-time version of the optimization problem is considered and solved via the Bellman principle. In addition, for computational reasons, a policy function iteration algorithm is introduced to find a stationary solution to the problem in a computationally efficient and elegant fashion. A numerical case study on optimization and simulation completes the work with highlighting the benefits of the proposed model.

Keywords: Pension investments, post-retirement phase, optimal portfolio, buffer mechanism, pension adjustments, HARA utility function, policy function iteration

JEL Classification: G11, G22, C61

Suggested Citation

Lichtenstern, Andreas and Zagst, Rudi, Optimal Investment Strategies for Pension Funds with Regulation-Conform Dynamic Pension Payment Management in the Absence of Guarantees (September 18, 2020). European Actuarial Journal, Available at SSRN: https://ssrn.com/abstract=3702372 or http://dx.doi.org/10.2139/ssrn.3702372

Andreas Lichtenstern (Contact Author)

Technische Universität München (TUM) - Chair of Mathematical Finance ( email )

Parkring 11
Garching-Hochbrueck, 85748
Germany

Rudi Zagst

Technische Universität München (TUM) - Chair of Mathematical Finance ( email )

Parkring 11
Garching-Hochbrueck, 85748
Germany
+49 89 289 17400 (Phone)

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