Reference no: EM132403204

You are interested in purchasing Credit Default Swaps on a 100,000,000 USD position in 5 year bonds issued by the government in Indonesia. The bonds are yielding 7%. Using the rates quoted at the CNBC bond page as INA, answer the following:

(a) If you purchase Credit Default Swaps on 100,000,000 USD in 5 year Indonesian government debt (INA), describe the payments required under the credit default swap contract (assuming the payments are quarterly in arrears).

(b) If there is a default event after 3 years and debt is worth 40% of its face value, how much will the credit default swap pay (assume it is cash settled)? Show your calculation

(c) If you own 100,000,000 USD in 5 year bonds issued by the Indonesian government, are you perfectly hedged by the Credit Default Swap contract? Explain.

If you can borrow risk-free at 1.75% for 5 year USD bonds, is there a profit opportunity from investing in INA government bonds and the CDS contract? Explain (remember to consider the expected change in exchange rates over time).