PRICING SOVEREIGN CONTINGENT CONVERTIBLE DEBT

Andrea Consiglio (), Michele Tumminello () and Stavros Zenios
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Andrea Consiglio: Department of Economics, Business & Statistics, University of Palermo, Viale delle Scienze, 90145 Palermo, Italy
Michele Tumminello: Department of Economics, Business & Statistics, University of Palermo, Viale delle Scienze, 90145 Palermo, Italy

International Journal of Theoretical and Applied Finance (IJTAF), 2018, vol. 21, issue 08, 1-36

Abstract: We develop a pricing model for Sovereign Contingent Convertible bonds (S-CoCo) with payment standstills triggered by a sovereign’s Credit Default Swap (CDS) spread. We model CDS spread regime switching, which is prevalent during crises, as a hidden Markov process, coupled with a mean-reverting stochastic process of spread levels under fixed regimes, in order to obtain S-CoCo prices through simulation. The paper uses the pricing model in a Longstaff–Schwartz American option pricing framework to compute future state contingent S-CoCo prices for risk management. Dual trigger pricing is also discussed using the idiosyncratic CDS spread for the sovereign debt together with a broad market index. Numerical results are reported using S-CoCo designs for Greece, Italy and Germany with both the pricing and contingent pricing models.

Keywords: Contingent bonds; sovereign debt; debt restructuring; regime switching; credit default swaps (search for similar items in EconPapers)
Date: 2018
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Related works:
Working Paper: Pricing sovereign contingent convertible debt (2018)
Working Paper: Pricing Sovereign Contingent Convertible Debt (2016)
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DOI: 10.1142/S0219024918500498

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