. You are the manager of a pension fund for a company that must make
lifetime payments to retired employees. Estimated future payments to
recipients total $2,000,000 per year. Since the firm expects to remain
in business permanently, you view these obligations as a perpetuity.
The current interest rate is 10%. The duration of 5-year bonds with
annual coupon rates of 12% is 4 years while the duration of 20-year
bonds with annual coupon rates of 6% is 11 years.
a. How much of these two bonds (in terms of market value) should you
hold in to both fully fund the pension obligations and immunize the
portfolio?
b. In terms of par values, how much of each bond will you hold?