EconPapers    
Economics at your fingertips  
 

A Simple and Precise Method for Pricing Convertible Bond with Credit Risk

Tim Xiao

No k6zj3, FrenXiv from Center for Open Science

Abstract: This paper presents a new model for valuing hybrid defaultable financial instruments, such as, convertible bonds. In contrast to previous studies, the model relies on the probability distribution of a default jump rather than the default jump itself, as the default jump is usually inaccessible. As such, the model can back out the market prices of convertible bonds. A prevailing belief in the market is that convertible arbitrage is mainly due to convertible underpricing. Empirically, however, we do not find evidence supporting the underpricing hypothesis. Instead, we find that convertibles have relatively large positive gammas. As a typical convertible arbitrage strategy employs delta-neutral hedging, a large positive gamma can make the portfolio highly profitable, especially for a large movement in the underlying stock price.

Date: 2015-07-18
References: View references in EconPapers View complete reference list from CitEc
Citations: Track citations by RSS feed

Downloads: (external link)
https://osf.io/download/5d911021c43280001bc58be0/

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:osf:frenxi:k6zj3

DOI: 10.31219/osf.io/k6zj3

Access Statistics for this paper

More papers in FrenXiv from Center for Open Science
Bibliographic data for series maintained by OSF ().

 
Page updated 2020-01-17
Handle: RePEc:osf:frenxi:k6zj3