Optimal funding of defined benefit pension plans

Abstract

Abstract In this paper, we address the issue of determining the optimal contribution rate of a defined benefit pension fund. The affiliate's mortality is modelled by a jump process and the benefits paid at retirement are function of the evolution of future salaries. Assets of the fund are invested in cash, stocks, and a rolling bond. Interest rates are driven by a Vasicek model. The objective is to minimize both the quadratic spread between the contribution rate and the normal cost, and the quadratic spread between the terminal wealth and the mathematical reserve required to cover benefits. The optimization is done under a budget constraint that guarantees the actuarial equilibrium between the current asset and future contributions and benefits. The method of resolution is based on the Cox–Huang approach and on dynamic programming.

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