Question 17.5 Can somebody explain this question to me. It seems like it should be so easy, but I don’t get schweser’s explanation.
i tripped up on this too…but it’s rather simple…dunno how else they could test it on the exam… so here is the scenario… 1. Value at Risk (Surplus at risk in this instance) = $500 million. Basically there is a 5% probability that the plan will be UNDERfunded by this amount at the end of the year. 2. Currently the plan has a surplus of $100 million 3. The plan is expecting to earn 5% on $2 billion of assets. That is (2,000,000,000)*.05 = 100 million 4. So at the end of the year the plan will be in surplus of $100 mn (from beginning surplus) + $100 mn (earned on assets during the year) = $200 mn So If they are expecting the plan to be underfunded by $500 mn (step 1) and expecting actual surplus to be $200 mn (Step 4)…the actual surplus at risk (underfundednesss) will be $500 - $200 = $300 million or more about 5% of the time. does that help?
Your calculation assumes that liability won’t grow, which is very conservative assumption. I don’t use schweser, so I don’t know why they use that assumption.
Thanks of bringing up the question and Mumu for your answer. It seems like after calculating surplus at risk, we can adjust it by the level of surplus and expected return…