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The views expressed are those of the authors at the time of writing. Other teams may hold different views and make different investment decisions. The value of your investment may become worth more or less than at the time of original investment. While any third-party data used is considered reliable, its accuracy is not guaranteed.
CORPORATE DEFINED BENEFIT (DB) PLAN SPONSORS ARE INCREASINGLY FOCUSED on how the construction of their liability-hedging portfolios can be enhanced to improve the probability of simply meeting the growth in their plan’s liability. In particular, plan sponsors are worried about the effect of credit-rating downgrades on their liability-hedging portfolios and funded ratios.
In this paper, we outline the challenges of constructing a portfolio that can keep pace with the liability and propose a set of practices we think plans and their LDI managers should consider to help combat what we call “downgrade drag,” including avoiding downgrades through security selection, mitigating their impact through various forms of diversification, and allowing managers to use all the tools at their disposal to try to outperform.
In designing a liability-hedging portfolio, the focus is typically on identifying the key risk characteristics (e.g., related to interest rate and credit risk) of the liability and then building a liability benchmark with similar risk characteristics. The liability benchmark is intended to be an investable representation of the plan’s liability, typically customized by blending various fixed income indices. However, even the most robustly constructed liability benchmark faces…
All figures are for the Wellington Management Group of companies as at 30 September 2021.
Past performance is no guarantee of future performance and can be misleading. Funds returns are shown net of fees.
Source: Wellington Management
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