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A risk-based premium: What does it mean for DB plan sponsors?

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Listed:
  • Chen, An
  • Uzelac, Filip

Abstract

This paper develops a risked-based premium calculation model for the insurance provided by the Pension Benefit Guaranty Corporation (PBGC). It takes account of the pension fund’s and the plan sponsor’s investment policy and extends Chen (2011) by considering distress termination triggered by the sponsor’s underfunding. We empirically illustrate our theoretical pricing formula for the 100 biggest American DB sponsoring companies. Our result clearly casts doubt on the current practice where about 70% of the PBGC premiums charged are flat. We observe that the funding ratio and the leverage are the main risk factors in a risk-based premium calculation.

Suggested Citation

  • Chen, An & Uzelac, Filip, 2014. "A risk-based premium: What does it mean for DB plan sponsors?," Insurance: Mathematics and Economics, Elsevier, vol. 54(C), pages 1-11.
  • Handle: RePEc:eee:insuma:v:54:y:2014:i:c:p:1-11
    DOI: 10.1016/j.insmatheco.2013.10.011
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    References listed on IDEAS

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    1. David A. Love & Paul A. Smith & David W. Wilcox, 2009. "Should risky firms offer risk-free DB pensions?," Finance and Economics Discussion Series 2009-20, Board of Governors of the Federal Reserve System (U.S.).
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    More about this item

    Keywords

    PBGC; Defined benefit plan; Distress termination; Correlation; Sponsor support;

    JEL classification:

    • G13 - Financial Economics - - General Financial Markets - - - Contingent Pricing; Futures Pricing
    • G23 - Financial Economics - - Financial Institutions and Services - - - Non-bank Financial Institutions; Financial Instruments; Institutional Investors

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