Optimal Investment Strategy for Defined Contribution Pension Schemes

We analyse the financial risk in a defined contribution pension scheme, applying dynamic programming techniques to find an optimal investment strategy for the scheme member. We use a series of interim targets and a target at retirement linked to the desired net replacement ratio. We consider both the investment risk and the annuitisation risk faced by the individual and specifically consider the properties of the so-called “lifestyle” investment strategies. The principal results concern the suitability of the lifestyle strategy and the large variability of the level of pension achieved at retirement in the case of a variable annuity conversion rate.