In: Finance
Pension funds pay lifetime annuities to recipients. If a firm
remains in business indefinitely, the pension obligation will
resemble a perpetuity. Suppose, therefore, that you are managing a
pension fund with obligations to make perpetual payments of $2.4
million per year to beneficiaries. The yield to maturity on all
bonds is 16%.
a. If the duration of 5-year maturity bonds with
coupon rates of 12% (paid annually) is 4.0 years and the duration
of 20-year maturity bonds with coupon rates of 8% (paid annually)
is 7.5 years, how much of each of these coupon bonds (in market
value) will you want to hold to both fully fund and immunize your
obligation? (Do not round intermediate calculations. Enter
your answers in millions rounded to 1 decimal
place.)
b. What will be the par value of your
holdings in the 20-year coupon bond? (Enter your answer in
dollars not in millions. Do not round intermediate calculations.
Round your answer to the nearest dollar amount.)