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Chance-constrained optimization for pension fund portfolios in the presence of default risk

Yufei Sun, Grace Aw, Ryan Loxton and Kok Lay Teo

European Journal of Operational Research, 2017, vol. 256, issue 1, 205-214

Abstract: In this paper, we consider the portfolio optimization problem for a pension fund consisting of various government and corporate bonds. The aim of the problem is to maximize the fund’s cash position at the end of the time horizon, while allowing for the possibility of bond defaults. We model this problem as a stochastic discrete-time optimal control problem with a chance constraint that ensures all future outgoing commitments can be met with sufficiently high probability. We then introduce a corresponding deterministic formulation that is a conservative approximation of the original stochastic optimal control problem. This approximate problem can be solved using gradient-based optimization techniques. We conclude the paper with a simulation study.

Keywords: Pension fund; Portfolio optimization; Optimal control; Gradient-based optimization (search for similar items in EconPapers)
Date: 2017
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Handle: RePEc:eee:ejores:v:256:y:2017:i:1:p:205-214