Dangerous design flaws in the Ultimate Forward Rate: The Impact on risk, shareholders and hedging costs

juli 2012

Recently, both insurance and pension regulators in Europe have been moving away from market-consistent valuation of long-dated liabilities. Market-consistent valuation was intended to bring transparency to the balance sheet, but it also brought along low interest rates and high balance sheet volatility. Given the lack of liquidity of ultra long-dated interest rate swaps, it has been suggested that the illiquid part of the curve, beyond the so-called “Last Liquid Point” (LLP), should be replaced by a more theoretical curve which gradually converges to a long-term “Ultimate Forward Rate” (UFR).

Theo Kocken, Bart Oldenkamp en Joeri Potters

Working paper