Suppose a pension fund must have $10,000,000 five years from now to make required payments to retirees.If the pension wants to guarantee the funds are available regardless of future interest rate changes, it should
A)sell a 5-year duration bond so that it matures with a book value of $10,000,000.
B)sell $10,000,000 face value discount bonds with a duration of five years.
C)purchase 7-year, semi-annual coupon bonds that have a duration of five years.
D)purchase 8-year, annual payment bonds that have a dollar duration of $10,000,000.
E)none of the options since future interest rates are too unpredictable.

Question

Quizplus · Accepted Answer

C) Purchase 7-year, semi-annual coupon bonds that have a duration of five years is the correct choice because duration is a measure of the sensitivity of the price of a bond to a change in interest rates and closely matches the pension fund's time horizon, ensuring the necessary funds are available regardless of interest rate changes.

Suppose a Pension Fund Must Have $10,000,000 Five Years from Now