Suppose that you manage a retirement fund that must pay a level stream of guaranteed annual benefit payments over the next thirty years. Your goal is meet these obligations with minimum risk, at minimum cost today. Explain the benefits and disadvantages of the following investment strategies.
a) Invest in a portfolio of 30-year Treasury bonds with a coupon equal to the par yield, i.e., Treasury bonds selling for their par value.
b) Invest in equal face value amounts of Treasury zero’s maturing in years one through thirty.
c) Invest in equal portfolio weights (present value) of Treasury zero’s maturing in years one through thirty.
d) Invest in a duration-matched portfolio of Treasury bonds of various coupons and maturities.
e) Invest in a duration- and convexity-matched portfolio of Treasury bonds of various coupons and maturities.
f) Invest in a 50%/50% mixture of Treasury bonds and corporate bonds which have higher yields, while matching the overall duration to the duration of your liabilities.