Consider a 5-year maturity put option with a strike price of $100 on a 2.5s coupon...

 

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Consider a 5-year maturity put option with a strike price of $100 on a 2.5s coupon bond of ten-year maturity from now. Let the zero-coupon yield curve (for semi-annual compounding) be flat at the level of 2.65%. (a) (4) Calculate the 5-year forward price of the bond (Hint: coupons are considered dividends). (b) (4) Assume the above forward price process of the coupon bond follows the log- normal dynamics with a volatility of 10%. Price the option on the post-coupon value of the bond. Note: You may adopt the following approximation to the standard normal distribution function: exp(-2²/2) 4+2+√√²+3° (c) (4) Explain how to hedge the short position of the bond option. Þ(x) ≈ 1- Consider a 5-year maturity put option with a strike price of $100 on a 2.5s coupon bond of ten-year maturity from now. Let the zero-coupon yield curve (for semi-annual compounding) be flat at the level of 2.65%. (a) (4) Calculate the 5-year forward price of the bond (Hint: coupons are considered dividends). (b) (4) Assume the above forward price process of the coupon bond follows the log- normal dynamics with a volatility of 10%. Price the option on the post-coupon value of the bond. Note: You may adopt the following approximation to the standard normal distribution function: exp(-2²/2) 4+2+√√²+3° (c) (4) Explain how to hedge the short position of the bond option. Þ(x) ≈ 1-

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ANSWER GIVEN THAT a 5year maturit... View the full answer