Pricing and hedging GDP-linked bonds in incomplete markets
Andrea Consiglio () and
Stavros Zenios ()
Journal of Economic Dynamics and Control, 2018, vol. 88, issue C, 137-155
We model the super-replication of payoffs linked to a country’s GDP as a stochastic linear program on a discrete time and state-space scenario tree to price GDP-linked bonds. As a byproduct of the model we obtain a hedging portfolio. Using linear programming duality we compute also the risk premium. The model applies to coupon-indexed and principal-indexed bonds, and allows the analysis of bonds with different design parameters (coupon, target GDP growth rate, and maturity). We calibrate for UK and US instruments, and carry out sensitivity analysis of prices and risk premia to the risk factors and bond design parameters. We also compare coupon-indexed and principal-indexed bonds.
Keywords: Contingent bonds; Debt restructuring; Asset pricing; Incomplete markets; Risk premium; Stochastic programming; Super-replication (search for similar items in EconPapers)
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Working Paper: Pricing and Hedging GDP-Linked Bonds in Incomplete Markets (2017)
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Persistent link: https://EconPapers.repec.org/RePEc:eee:dyncon:v:88:y:2018:i:c:p:137-155
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