Definition
LDI manages a portfolio relative to liabilities rather than a market benchmark. Pension funds, for example, must match the present value of future benefit payments. LDI uses long-duration bonds, interest rate swaps, and other instruments to immunize the portfolio against interest rate changes that affect liability values. The goal is funding ratio stability rather than absolute return maximization.
lightbulb Example
A pension fund has $500M in liabilities with 15-year duration. LDI strategy invests $400M in long-duration bonds (duration 15 years) and $100M in growth assets. When rates fall, both liabilities and assets increase, maintaining the funding ratio.
verified_user Key Points
- Manages portfolio relative to liabilities, not benchmarks
- Used by pension funds and insurance companies
- Duration matching is the primary technique
- Funding ratio = assets / liabilities is the key metric