Interest rate risk is often the most significant risk faced by defined benefit (DB) plan sponsors. A simple metric for showing how much of this risk is being managed is the hedge ratio. Plan sponsors can improve their hedge ratio by pulling one or more of the following three levers:
1. Funded status (contributions)
2. LDI allocation
3. Duration ratio
This Viewpoint includes a case study to illustrate the impact each of these levers can have on the hedge ratio and discusses how the third lever tends to have the most immediate impact on hedging interest rate risk.