Pension Fund Asset and Liability Management

Stanley Myint and Fabrice Famery

Contents

Foreword

Introduction

1.

Theory and Practice of Corporate Risk Management

2.

Theory and Practice of Optimal Capital Structure

3.

Introduction to Funding and Capital Structure

4.

How to Obtain a Credit Rating

5.

Refinancing Risk and Optimal Debt Maturity

6.

Optimal Cash Position

7.

Optimal Leverage

8.

Introduction to Interest Rate and Inflation Risks

9.

How to Develop an Interest Rate Risk Management Policy

10.

How to Improve Your Fixed-Floating Mix and Duration

11.

Interest Rates: The Most Efficient Hedging Product

12.

Do You Need Inflation-linked Debt?

13.

Prehedging Interest Rate Risk

14.

Pension Fund Asset and Liability Management

15.

Introduction to Currency Risk

16.

How to Develop Currency Risk Management Policy

17.

Translation or Transaction: Netting Currency Risks

18.

Early Warning Signals

19.

How to Hedge High Carry Currencies

20.

Currency Risk on Covenants

21.

Optimal Currency Composition of Debt 1: Protect Book Value

22.

Optimal Currency Composition of Debt 2: Protect Leverage

23.

Cyclicality of Currencies and Use of Options to Manage Credit Utilisation

24.

Managing the Depegging Risk

25.

Currency Risk in Luxury Goods

26.

Introduction to Credit Risk

27.

Counterparty Risk Methodology

28.

Counterparty Risk Protection

29.

Optimal Deposit Composition

30.

Prehedging Credit Risk

31.

xVA Optimisation

32.

Introduction to M&A-related Risks

33.

Risk Management for M&A

34.

Deal-contingent Hedging

35.

Introduction to Commodity Risk

36.

Managing Commodity-linked Revenues and Currency Risk

37.

Managing Commodity-linked Costs and Currency Risk

38.

Commodity Input and Resulting Currency Risk

39.

Offsetting Carbon Emissions

40.

Introduction to Equity Risk

41.

Hedging Dilution Risk

42.

Hedging Deferred Compensation

43.

Stake-building

In this chapter, we will deal with both the asset and liability side of the corporate balance sheet, both of which come from the corporate pension fund. The subject of ALM for pension funds is quite broad, and in this chapter we only offer our reader a peek into this vast area from the perspective of corporate risk. The interested reader should consult Mitra and Schwaiger (2011), Scherer (2003) or Kimyagarov and Shivdasani (2013).

The basic problem in pensions ALM is the mismatch between the pension’s assets and its liabilities. Companies that provide their employees with a defined benefit pension scheme guarantee a certain level of benefits for a period of time after retirement. These benefits form the pension liabilities and are backed by pension assets. Assets can be any financial assets, but most frequently they are shares and government or corporate bonds, held either directly by the pension fund or through third-party asset managers. A certain part of the liabilities is paid every year, but funds must take into account the net present value of future cashflows when computing the pension position. If the present value of all pension liabilities is higher than the present

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