LOS m: Demonstrate the use of cash flow matching to fund a fixed set of future liabilities and contrast the advantages and disadvantages of cash flow matching with those of immunization strategies.

Q1. Which of the following explains the extension of cash flow matching for multiple liabilities? Cash flow matching for multiple liabilities is achieved by:

A)   selecting a bond whose principal plus final coupon is equal to the last liability, then selecting a bond whose principal plus final coupon is equal to the second to last liability, and so on until all liabilities have been matched.

B)   buying and selling bonds in a way to match the cash flows of a liability stream.

C)   selecting bonds with present values equal to the present value of the liability stream and with the same maturity.

Q2. Which of the following statements concerning the process of cash flow matching for funding multiple liabilities is TRUE?

Find bonds with:

A)   an average duration equal to the average duration of the liabilities.

B)   durations equal to the durations of each liability.

C)   maturity dates equal to the maturity dates of each liability payment.

Q3. Which strategy for funding multiple liabilities is a combination of multiple liability immunization and cash flow matching?

A)   Contingent immunization.

B)   Treasury yield curve plus spread approach.

C)   Horizon matching.

LOS m: Demonstrate the use of cash flow matching to fund a fixed set of future liabilities and contrast the advantages and disadvantages of cash flow matching with those of immunization strategies. fficeffice" />

Q1. Which of the following explains the extension of cash flow matching for multiple liabilities? Cash flow matching for multiple liabilities is achieved by:

A)   selecting a bond whose principal plus final coupon is equal to the last liability, then selecting a bond whose principal plus final coupon is equal to the second to last liability, and so on until all liabilities have been matched.

B)   buying and selling bonds in a way to match the cash flows of a liability stream.

C)   selecting bonds with present values equal to the present value of the liability stream and with the same maturity.

Correct answer is A)

The first bond is matched to the last liability, the remaining elements of the liability stream are reduced by the coupon payments of this bond, and another bond is chosen for the next to last liability, adjusted for any coupon payments of the first bond selected. This process is continued until all liabilities have been matched by payments on the securities selected for the portfolio.

Q2. Which of the following statements concerning the process of cash flow matching for funding multiple liabilities is TRUE?

Find bonds with:

A)   an average duration equal to the average duration of the liabilities.

B)   durations equal to the durations of each liability.

C)   maturity dates equal to the maturity dates of each liability payment.

Correct answer is C)

The process is to find bonds with maturity dates equal to the maturity dates of each liability payment.

Q3. Which strategy for funding multiple liabilities is a combination of multiple liability immunization and cash flow matching?

A)   Contingent immunization.

B)   Treasury yield curve plus spread approach.

C)   Horizon matching.

Correct answer is C)

The horizon matching (or combination matching) approach uses a combination of multiple liability immunization and cash flow matching.