Can somebody please explain the difference between the 2 in simple words? One difference I know is that in cash flow matching, the portfolio value is zero after the last liability is paid. In case of multiple liability, assets can have duration greater than the duration of the last liability and portfolio value may not be zero after the last liability is paid.
anybody?
cash flow matching involves investing in bonds that will provide cash inflows that exactly match the outflows required for the liability. this eliminates your price risk and reinestment rate risk (assuming your perfectly match all cash flows) in multiple liability immunization you are not necessarily trying to match all cash flows, you want the average duration of the portfolio to match the average duration of your liabilities and the present value of the assets to match the present value of the liabilities, while ensuring that the range of the asset durations are greater than that for the liabilities (I think this is to ensure that you have assets covering the extent of the life of your liabilities as reinvestment rate risk is considered to be worse when compared to price risk)
if anything, multiple liability immunization is at least equal if not better than CF matching. Reinvestment is a big problem in CF matching as it is unlikly that CF from a bond will exactly match the liabilities.
Cash flow matching is one or more assets per liability. Clear Identification. For multiple liability, no clear identification is made. However, after the end of last liability, in case of a perfect hedge, no assets will be left. EG Assume Last liability on June 7. Assume you have a zero maturing on June 1 and another matching on June 10. Step 1 -> On June 1 you’ll take the par value of zero and invest it in some asset till June 7th. Step 2 -> Then on june 7 you liquidate both assets and pay off the liability.