pension interest cost

interest cost is a part of expense calculation, it involves taking the prior period PBO and multiplying it by the rate, (PBO x r) now schweser states (on page 195 , Book 2) that as the rate is increased, the interest component of the expense goes down, what gives?? if r is up, the int component should be up… what am I or schweser missing? thank you

is it because PBO = PV of benefits paid, which will come down when r increases? CP

well yes if you consider all components (change in PBO) including service cost, but if you consider the interest component of expense alone that should nt be the case , service costs are separate

i also wanted to throw this one in: is the an MLA adjustment under the new pension stnds?

viktorv Wrote: ------------------------------------------------------- > i also wanted to throw this one in: is the an MLA > adjustment under the new pension stnds? I think the MLA is under both standards. The main difference between the old standard and the new standard is the Funded status. The old standard allowed for unrecognized gains/losses where the new standard does not. If the ABO > Fair market value of assets, you have to account for MLA, general case.

schweser says MLA is under old stnds, says nothing about new for some reason

PBO will do down if r increases. So I guess overall interest will come down. Probably it is better to plug in some number.

1: MLA is not applicable under new standards 2: There isn’t a rule of thumb on direction of Interest Cost since (a) liability will go down when r increases, but (b) interest on that PBO will go up when calculating Interest Cost. It’s the net effect of the two that will drive the direction of the Interest Cost (you could say that if the %change in PBO is less than the %change in r, then Interest Cost will go up etc… but you’re better off thinking of it problem by problem)

MLA won’t happen during new standards because the difference between PBO and pension assets is recorded.

alright! thank you guys summary : 1) PBO x r - depends on r and PBO , since PBO also goes down as r is up, the net effect must be considered, no single rule 2) no MLA under new stnds

yes, I just saw it in the text. The MLA was for the old standard.

awesome, Schweser notes are wrong in this respect, this is also posted as errata on their website

There is an example in the CFA text book which shows the case where interest rate goes up (i think the example had 7 to 7.5%) and the PBO goes down, the net affect was that the interest cost went up. Lets take a simple case lets say that we have PBO of 1000 after 5 years so PV at 7 % is 712.99 7% on 712.99 is 762.8993 (interest cost = 49.9093) now present value of 1000 at 7.5 is 696.56 7.5% of 696.56 = 748.802 (interest cost = 52.242 ) So the interest cost goes up