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

Xiaoyi Zhang () and Junyi Guo ()
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Xiaoyi Zhang: School of Mathematical Sciences, Nankai University, Tianjin 300071, China
Junyi Guo: School of Mathematical Sciences, Nankai University, Tianjin 300071, China

Risks, 2018, vol. 6, issue 2, 1-16

Abstract: This paper investigates the optimal investment strategy for a defined contribution (DC) pension plan during the decumulation phase 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 real wealth by investing the fund 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 related Hamilton-Jacobi-Bellman (HJB) equation. The results reveal that, with any level of the parameters, an inflation-indexed bond has significant advantage to hedge inflation risk.

Keywords: inflation-indexed bond; DC pension plan; stochastic optimal control; dynamic programming approach; HJB equation (search for similar items in EconPapers)
JEL-codes: C G0 G1 G2 G3 M2 M4 K2 (search for similar items in EconPapers)
Date: 2018
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