An investment firm specializing in fixed income has the following portfolio of bonds, all with similar...
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An investment firm specializing in fixed income has the following portfolio of bonds, all with similar credit rating and maturity of 3 years. 0 < T₁<T2<.....<< Tn and Tj denotes time as end of year j when a call and/or a put can be exercised by the issuer. Interest rate volatility in the next 3 years are estimated as σ(1) = 10%, σ(2) = 15%, σ(3) = 15%. Bond Issuer Coupon Call OAS Call price Embedded Company Dates (in bps) Option A PacBrew T1, T2 18.3 At Par Callable B AsaBrew T₁, Tz 21.7 At Par Callable C Innovat 5% T1, T2 20.0 At 104% Callable D Innovat 5% T1, T2 20.0 At 101% Putable E TechCraf Straight F Techcraf Convertible Note: Grey box indicates that no information is given. (a) Bonds A and B are from related companies in the same sector of the same country. If there is arbitrage opportunities, what long or short positions would you take with regards to Bonds A and B? (b) Given that Treasury notes for 1, 2 and 3 year maturities have par coupon rates of 1%, 1.8%, 2.2%, calibrate the 3-period BDT binomial tree for Bonds C and D. (c) What are the arbitrage-free prices of Bonds C and D? (d) Effective duration is the (unsigned, usually quoted as absolute value) slope of the embedded option bond price curve with respect to the yield-to-maturity. What is the sign of the effective duration of D less the effective duration of C, especially when interest rate rises? (e) Bond E has a current market price of 99.95. Bond F has a conversion price of 32. Techcraf's stock is currently selling at 16 per share. What would be an approximate value of Bond F? An investment firm specializing in fixed income has the following portfolio of bonds, all with similar credit rating and maturity of 3 years. 0 < T₁<T2<.....<< Tn and Tj denotes time as end of year j when a call and/or a put can be exercised by the issuer. Interest rate volatility in the next 3 years are estimated as σ(1) = 10%, σ(2) = 15%, σ(3) = 15%. Bond Issuer Coupon Call OAS Call price Embedded Company Dates (in bps) Option A PacBrew T1, T2 18.3 At Par Callable B AsaBrew T₁, Tz 21.7 At Par Callable C Innovat 5% T1, T2 20.0 At 104% Callable D Innovat 5% T1, T2 20.0 At 101% Putable E TechCraf Straight F Techcraf Convertible Note: Grey box indicates that no information is given. (a) Bonds A and B are from related companies in the same sector of the same country. If there is arbitrage opportunities, what long or short positions would you take with regards to Bonds A and B? (b) Given that Treasury notes for 1, 2 and 3 year maturities have par coupon rates of 1%, 1.8%, 2.2%, calibrate the 3-period BDT binomial tree for Bonds C and D. (c) What are the arbitrage-free prices of Bonds C and D? (d) Effective duration is the (unsigned, usually quoted as absolute value) slope of the embedded option bond price curve with respect to the yield-to-maturity. What is the sign of the effective duration of D less the effective duration of C, especially when interest rate rises? (e) Bond E has a current market price of 99.95. Bond F has a conversion price of 32. Techcraf's stock is currently selling at 16 per share. What would be an approximate value of Bond F?
Expert Answer:
Answer rating: 100% (QA)
a To identify arbitrage opportunities between Bonds A and B we need to compare their prices and yiel... View the full answer
Related Book For
Intermediate Accounting
ISBN: 978-0132162302
1st edition
Authors: Elizabeth A. Gordon, Jana S. Raedy, Alexander J. Sannella
Posted Date:
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