Immunization Strategy for Fixed Income Liabilities

Very Hard Liability-driven Strategies Immunization

A fixed income portfolio manager is tasked with managing a $150 million liability that will be due in exactly 10 years. The objective is to immunize the portfolio against interest rate changes, ensuring that the investments can meet this liability when it comes due. The manager is considering using a portfolio of zero-coupon bonds to match the duration of the liability precisely.

The following strategies are under consideration:

1. Purchasing zero-coupon bonds maturing exactly at the liability due date.

2. Allocating funds to coupons bonds with different maturities but a weighted average duration equal to the liability duration.

3. Investing in a mixture of zero-coupon bonds and floating-rate notes to capture any potential increases in interest rates.

Which of the following strategies is most aligned with the concept of immunization as it pertains to this liability-driven investment approach?

Purchasing zero-coupon bonds maturing exactly at the liability due date.

Allocating funds to coupon bonds with different maturities but a weighted average duration equal to the liability duration.

Investing in a mixture of zero-coupon bonds and floating-rate notes to capture potential increases in interest rates.

Hint

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