Preprint Article Version 1 This version is not peer-reviewed

The Role of Inflation-indexed Bond in Optimal Management of Defined Contribution Pension Plan During the Decumulation Phrase

Version 1 : Received: 23 January 2018 / Approved: 25 January 2018 / Online: 25 January 2018 (09:17:12 CET)

A peer-reviewed article of this Preprint also exists.

Zhang, X.; Guo, J. The Role of Inflation-Indexed Bond in Optimal Management of Defined Contribution Pension Plan During the Decumulation Phase. Risks 2018, 6, 24. Zhang, X.; Guo, J. The Role of Inflation-Indexed Bond in Optimal Management of Defined Contribution Pension Plan During the Decumulation Phase. Risks 2018, 6, 24.

Journal reference: Risks 2018, 6, 24
DOI: 10.3390/risks6020024

Abstract

In this paper we investigate the optimal investment strategy for a defined contribution (DC) pension plan during the decumulation phrase which is risk-averse and pays close attention to inflation risk. The plan aims to maximize the expected constant relative risk aversion (CRRA) utility from the terminal wealth by investing the wealth in a financial market consisting of an inflation-indexed bond, an ordinary zero coupon bond and a risk-free asset. We derive the optimal investment strategy in closed-form using the dynamic programming approach by solving the corresponding Hamilton-Jacobi-Bellman (HJB) equation. Our theoretical and numerical results reveal that under some rational assumptions, an inflation-indexed bond do has significant advantage to hedge inflation risk.

Subject Areas

inflation-indexed bond; DC pension plan; stochastic optimal control; dynamic programming approach; HJB equation.

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