A finished FIN-655 Topic 2 liability-relative allocation study example, measuring a pension plan's interest rate hedge ratio, testing a one-point rate fall and lengthening bond duration before cutting equities. Searches like "fin 655 topic 2 assignment example", "fin655 topic 2 sample" and "fin-655 topic 2 example" land here.
What a finished FIN-655 Topic 2 liability-relative allocation study looks like
Illustrative figures run through the finished study. Liabilities of 900 million carry a duration of 12 years; assets of 800 million sit 60 percent in return-seeking holdings and 40 percent in core bonds with a duration of 6. The bonds' dollar duration, 320 times 6, covers only about 18 percent of the liabilities' 900 times 12, so a one-point fall in rates raises liabilities by about 108 million and the bonds by about 19. The deficit widens from 100 million to nearly 189 without any stock moving. Keeping the 60/40 split but holding long bonds with a duration of 14 lifts the hedge ratio to about 41 percent and holds the widening to 63 million. On the case's upward-sloping curve, the longer bonds even yield slightly more.
How a FIN-655 Topic 2 example is structured
The study reads the plan from the liability side first. An opening section states the funded status, the liabilities' duration and the discount rate basis the case supplies, and labels every figure illustrative. A hedge ratio section sets the bonds' dollar duration against the liabilities'. The shock section applies a one-point parallel fall in rates, then a 25 percent fall in return-seeking assets, then both together, and reports funded status after each for three candidate policies. A curve paragraph explains why extending duration costs no expected return on the case's upward-sloping curve and would cost some if the curve inverted. A note says duration is a first-order estimate and that convexity adds a small correction for a move this size. The study ends with a glide path in which return-seeking assets step down toward 45 percent as funded status crosses set thresholds.
Funded status as the measure
The plan's result is assets against liabilities, so an allocation that looks moderate in asset-only terms can still carry most of its risk against the promises.
A hedge ratio of 18 percent
Core bonds with a duration of 6 offset less than a fifth of the liabilities' rate sensitivity, leaving the deficit exposed to every fall in rates.
One rate fall, no stock move
A one-point drop lifts liabilities by about 108 million and core bonds by about 19, widening the deficit by roughly 89 million on rates alone.
Duration lengthened before equities cut
Holding long bonds at a duration of 14 raises the hedge ratio to about 41 percent while keeping the return-seeking share the deficit still needs.
Allocation evidence cited with its three answers
Ibbotson and Kaplan separated variation over time, differences between funds and the level of return, and the study cites the finding that fits its question.
A glide path tied to funding
Return-seeking assets step down toward 45 percent only as funded status crosses set thresholds, the first at 95 percent, so de-risking follows progress.
Where marks go in FIN-655 Topic 2
Most of the marks on this topic go to one omission: an allocation judged by asset volatility alone, with the liabilities never measured, tracks a risk other than the one the plan actually runs. Papers that treat bonds as the safe asset without checking their duration miss that short bonds leave a pension exposed to falling rates. Recommending a cut in equities as the first response to a deficit gives up expected return the plan needs while leaving most rate risk in place. Stating current yields or a rate forecast as fact turns the case's assumptions into a prediction the study cannot defend. Shock tests that move rates or stocks but never both together understate the year sponsors fear. A policy with no rule for when to de-risk leaves each future committee to decide in the moment.
Get a FIN-655 Topic 2 example written to your instructions
Send the FIN-655 Topic 2 instructions and your classroom rubric, with the plan data your section supplies. We write a custom example to them, with funded status as the measure, the hedge ratio computed, rate and equity shocks run singly and together, and a glide path defended against an immediate cut in equities, in 24 to 48 hours. The first one is free.
FIN-655 Topic 2 questions, answered
What is a hedge ratio for a pension plan?
The share of the liabilities' interest rate sensitivity that the assets offset, usually measured by comparing dollar durations. A plan whose bonds have a dollar duration equal to a fifth of its liabilities' has hedged about 20 percent of its rate risk, so when rates fall, the deficit widens by most of the liabilities' increase. Raising the ratio can be done by holding more bonds, longer bonds or derivatives that add duration.
Why does duration matter more than the stock and bond split here?
Because the plan's deficit moves with rates as well as with markets, and rate risk sits almost entirely in the gap between the liabilities' duration and the bonds'. Moving from core to long bonds changes the hedge ratio from about 18 to about 41 percent without touching the split. Cutting equities would reduce market risk, but at a duration of 6 even more bonds would leave most rate risk unhedged.
Does the study say how a real pension plan should invest?
No. The plan, its liabilities, the durations and the expected returns are invented so that rate risk and market risk can be seen apart. A real plan's allocation depends on actuarial valuations, the sponsor's finances, the discount rate rules that apply to it and advice from its actuary and consultants. The study is FIN-655 coursework on measuring allocation against liabilities, and it recommends nothing to any actual plan.