In a litigation context, a discount rate should be chosen that enables interest to offset future payments once the award is invested but not so high a bond rate as to risk default. There is considerable debate among forensic accountants and economists as to how best to make this choice. The following issues typically arise in these debates:
- Minimize default risk by choosing a combination of short term, medium term, and long-term US Treasury bonds with one set to mature each year of the expected loss.
- Minimize default risk and inflation risk by choosing very short-term US Treasury notes and assume the plaintiff reinvests the principal every 90 days. US government Treasury bills of very short duration have the least risk of default and reduce the risk of unanticipated inflation. The current average yield on 3-month Treasury bonds is2.08%. (vs. 11.09% in 1982.)
- Choose a US Treasury bond rate with maturity equal to the length of loss.
To clarify this last point, the bond-term-match-loss-duration argument for a 20-year loss, one should choose a 20-year bond. The current 20-year US Treasury constant maturity bond rate is 2.98%. A refinement of this argument for a 20-year loss period is not to select a fixed discount rate for the entire period but to choose a one-year rate for the first year, and so forth, up to a 20-year rate for the 20th year.
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