Compute the possible prices of the loans next year

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Reference no: EM131527136

Suppose there are two ratings categories: A and B, along with default. The ratings-migration probabilities look like this for a B-rated loan:

Rating in 1 year Probability

A 0.05

B 0.9

Default 0.05

The yield on A rated loans is 5%; the yield on B rated loans is 10%. All term structures are flat (i.e. forward rates equal spot rates). A loan in default pays off 50%.

a. You have two loans in your portfolio, both are B-rated, 3-year, 10% coupon bonds (paid annually), each with $100 face value. Compute the possible prices of the loans next year in each ratings bucket (just before the first coupon is paid).

Reference no: EM131527136

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