Life-cycle Fund Investment Risk Analysis And Risk Management Strategy

Life-cycle funds, also known as target retirement funds or target maturity funds. It is an innovative fund product which continuously adjusts the asset allocation according to the human life cycle. Life-cycle funds diversified professional portfolio to meet investors’needs at different stages of their lives in order to achieve different investors’goals.Firstly, a comparison of the different type and characteristics of life cycle funds have been point out, and a description of the international development of life cycle funds have been discussed. As a method of investment for pension funds, the investment style of life cycle funds are more personality, more simple, and is more acceptable by the public. Therefore, it is necessary to discuss the basic theory, the design factors and the investment performance of life cycle funds.Secondly, the life-cycle fund investment theory, and the development framework of life-cycle fund investment theory have been discussed in the third chapter of this paper. Although, the Markowitz mean-variance portfolio theory is a basic theory of portfolio investment, the assumptions of this model are too strict, and considering only the single-period condition. Therefore, Markowitz theory cannot be a support for the life-cycle fund investment method. Although, the Tobin portfolio selection theory which derived from the Markowitz mean-variance investment theory, had improved the Markowitz model, its conclusion is different from the situation of life-cycle fund investment. Therefore, it also cannot be a support for the life-cycle fund model. Fortunately, another model-the Lifetime Portfolio Selection Theory had been found, which takes the different needs of investors in their different investment periods into account, and introduces a multi-period investment condition. Then, several assumptions of this model had been relaxed, and some important factors had also been introduced into this model, such as human capital, transaction costs, taxes, etc., to discuss the reality of investment. By introducing the theory above, we found that Lifetime Portfolio Selection Theory can be a strong support for life-cycle fund investment.Thirdly, in the framework of the life cycle portfolio theory, the important risk variables of life-cycle fund investment have been discussed. The focus of this discussion is on the risk variables, and the impaction of changing variables on the life-cycle fund investment. In the aspect of investment instruments choices, the interest rate risk and inflation risk are all important to long-term investments. In order to reduce the risk of the long-term investment of bond, the long-term bonds and inflation protected bonds have been introduced. In addition, stock returns display a mean reversion process. Compare to the short-term investment, in the long-term period, stock investment returns show fluctuate around a mean. Therefore, we can conclude that, for a long-term investment in stocks, the risk is less than the risk in short-term investment. Thus, a conclusion has been concluded in this chapter that asset allocation of life-cycle funds investment can increase the proportion invested in equities. Besides, the hypothesis of human capital is a primary consideration of model designation in life-cycle fund. The diversity and the different changes in patterns of human capital also have different influences to life-cycle funds investment.Fourthly, according to the analysis of investment risk factors, the designing factors, and the hypothesis of life-cycle fund have been discussed. Then, under the condition of assumption-relaxing, the different impact on investment products have been analyzed in order to provide a basis for life-cycle funds investment modeling.Fifthly, the performance of life-cycle fund investment have been discussed. empirical methods have been used to analyze the shortfall risk of life-cycle fund investment. This study includes the analysis on investment rate of return, accumulated retirement savings, and income replacement rate. The result of analysis shows that under the established conditions, the shortfall risk of life-cycle fund does exist.Finally, an assessment on the impact of changing risk factors to life-cycle fund investment performance has been given in this chapter. Then, the investment risks of life-cycle funds have been evaluated, and the risk management strategies of life-cycle fund investment have been presented. By analyzing the different investment vehicle, and to change the original model assumptions, a conclusion shows that to use different investment instruments selection methods, to increase the working life of investors, and to change the payment rate, can all improve the investment performance of life-cycle fund, as well as to reduce the investment risk of life-cycle fund.In summary, the main points of this paper are:(1) life-cycle fund is a kind of pension fund investment method which has great market potential; (2) life-cycle fund which is on the basis of LPS, provides theoretical support for long-term pension fund investment, is a more complete long-term fund investment model; (3) the changes in risk factors affect the investment performance of life-cycle fund, therefore, the shortfall risk of life-cycle fund does exist; (4) changes in risk factors can decrease or eliminate the life-cycle fund investment risk, thus, improve the investment performance of life-cycle fund.The main innovations in the paper are as follows:The problems of long-term pension fund investment have been considered in this paper, to introduce a kind of innovative investment pattern called life-cycle fund model. Then, with the corresponding life-cycle investment theory, the major variables of life-cycle fund have been found out. Meanwhile, the risk factors, the study of impact on different risk factors of the life-cycle fund investment performance using the Monte Carlo analysis have been introduced in this paper to provide a series the risk management strategies.More efforts should be made in the further research in the following three aspects.First, because of the large range of the portfolio investment theory, a study which depends on more in-depth researches should be done to acquire more design considerations of life cycle funds.Second, in the discussion of life-cycle fund investment performance issues, only the introduction of the income replacement rate as the quantitative factors of investment performance has been given. Empirical studies in follow-up should focus on the analysis of various quantitative factors, in order to make an all-round evaluation of investment performance.Third, in the aspect of risk management strategies of investment of life-cycle fund, no discussion of stock volatility factors, risk factors, and tax factors, etc., have been placed in the paper. Moreover, risk management strategies are relying on the single risk factor changes. In the subsequent empirical research, interchanges of risk factors for life-cycle investment should be introduce into the model, in order to make more realistic risk management strategies.