Empirical Test of Multiple-Liability Immunization Conditions

Abstract

Multiple-liability immunization strategies require that three conditions are satisfied. These conditions are based on the value, duration, and dispersion of the cash flow stream. The validity of immunization strategies depends on assumptions about how the term structure changes over time. Given that actual term structure changes may violate these assumptions, the performance of these strategies is an empirical question. Using historical weekly changes in the spot rate curve over a 32-year period applied to a large number of simulated portfolios, this study backtests the performance of multiple-liability immunization strategies. The author finds that the dispersion condition, in various forms, does not improve the performance of duration-matched portfolios. Statistical tests of portfolio performance do not depend on whether the dispersion condition is satisfied. Further, duration is a fairly good measure of interest rate risk. Only one duration-targeted portfolio out of 50,000 has a statistically significant historical median return at the 10 percent level.