Defined Benifit -ALM

[FrankCFA]

“If pension assets equal the present value of pension liabilities and if the rate of return earned on the assets equals the discount rate used to calculate the present value of the liabilities, then pension assets should be exactly sufficient to pay for the liabilities as they mature.” - quote from curriculum
Question: pension liabilities usually subject to employee’s salary so it’s not really predictable. How does it work? Thanks.

 

[Would You Look]

Did you take the level 2 exam?

 

[cpk123]

PV (Liability) = each person’s salary benefit discounted to a PV at the discount rate.
So if PV(Liab) = Pension assets - and any addition to the Liab is offset by a similar return on the assets - each time the two are moving in lock step.

 

[FrankCFA]

Thanks cpk! Almost forget what L2 taught…

 

[Galli]

FrankCFA wrote:
so it’s not really predictable. How does it work? Thanks.

The liability is known because it’s accrued via the employees tenure with the firm.

 

[Cric12]

There’s also unknown portion to it such as projected benefit obligation (PBO) which is projected using models and then brought back to present value using discounted rate.