Liability-Driven Indexing Strategy

Very Hard Liability-driven Strategies Indexing

As a senior fixed income portfolio manager at a large pension fund, you are tasked with developing a liability-driven investment strategy that incorporates indexing to meet future liabilities. The pension fund's projected liabilities are closely aligned with the performance of a specific fixed income index, and you aim to minimize tracking error while optimizing yield. In considering the various indexing strategies that could be employed, how should you position the portfolio considering interest rate sensitivity, credit quality, and potential market volatility?

Implement a full replication strategy using all bonds in the index, regardless of their credit quality, to minimize tracking error.

Adopt a sampling strategy focused exclusively on high-quality bonds, leading to potentially increased tracking error but improved credit quality.

Utilize a modified duration matched strategy that aligns the portfolio's cash flows with the liabilities while monitoring market conditions.

Hint

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