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Reinvestment Risk

M

Mahima Singla

Active Member
Hi Team,

Could anyone please confirm what exactly is reinvestment Risk. It would be really helpful if this could be illustrated with an example. As I understand what is given in core reading but want to understand more about it. Like how reinvestment is a risk for a company?
 
Mahima Singla said:
Hi Team,

Could anyone please confirm what exactly is reinvestment Risk. It would be really helpful if this could be illustrated with an example. As I understand what is given in core reading but want to understand more about it. Like how reinvestment is a risk for a company?
Click to expand...
Hi Mahima

A numerical example may help.

Consider an insurer with a liability to pay in 2 years of 121. They have assets of 100. So if they invest in a zero coupon bond earning 10% pa for two years then they are perfectly matched.

However, if they buy a one-year zero coupon bond then they will have 110 at time one. They will then be exposed to a reinvestment risk that interest rates fall below 10% and so they would be unable to meet the liability.

Best wishes

Mark
 
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