Dynamic asset liability management with tolerance for limited shortfalls
A dynamic asset allocation problem in the presence of liabilities is considered. The fund manager has von Neumann-Morgenstern preferences with terminal utility function defined over the excess of liquid wealth over a minimum liability coverage tolerated and intermediate utility function defined over dividends, the excess of expenditures over liability cash flows. Preferences incorporate a parameter controlling the tolerance for a shortfall in the funding ratio at the terminal date. The optimal asset allocation rule is derived and its sensitivity with respect to the parameters of the model is analyzed.
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