Bonds with embedded put options, Financial Management

Assignment Help:

Put option is the right of the investor which he may exercise on the date at the put price given in the indenture. Normally, put price is in par value. When yield rises such that the bond's value falls below the put price, then investor will exercise the put option.

The value of putable bond is equal to the value of option-free bond plus the value of the put option. Therefore, the value of embedded option is equal to the difference between the value of a putable bond and the value of comparable option-free bond. 

Figure 1: Price/Yield Relationship for a Putable Bond and an Option-Free Bond

990_bond with embedded put options.png

Figure 1 shows that curve a - b' and a - a' shows the price/yield relationship of a putable bond and option-free bond respectively. When yield is lower than the coupon rate then price of the putable bond is same as option-free bond because the value of the put option is small. As interest rate increases the price of the putable bond declines but decrease in price is less when compared to that of option-free bond.  For a given yield level, the difference between the price of putable bond and comparable option-free bond is the value of a put option.


Related Discussions:- Bonds with embedded put options

The rise of derivative market, The Rise of Derivative Market: In the 1...

The Rise of Derivative Market: In the 1980s, the process of liberalization and deregulation of the financial markets gained momentum when the British and American leadership l

The us treasuries and other government securities, The United S...

The United States of America issues US Treasuries, which are negotiable government debt obligations. They are popular because they are backed by the full

What is return oncapital employed - performance ratios, What is Performanc...

What is Performance ratios ROCE Return oncapital employed (ROCE)= (Profit before interest and tax (PBIT) / Capital employed) * 100% ROCE measures profitability and illu

Foreign exchange market equilibrium, Foreign Exchange Market Equilibrium: ...

Foreign Exchange Market Equilibrium: We say that the foreign exchange market is in equilibrium when deposits of all currencies o er the same expected rate of return (when retu

Analyze the practice of democracy, Question 1: Analyze the practice of ...

Question 1: Analyze the practice of democracy as advocated by the early Greek political thinkers. Question 2: To what extent can Man live peacefully with each other wi

Credit spread risk, A credit spread refers to the difference in inter...

A credit spread refers to the difference in interest rate between a corporate bond and a comparable maturity government bond. Suppose interest rate on a five-year

Forward contracts, Forward Contracts: The origin of forward contracts i...

Forward Contracts: The origin of forward contracts is lost in history. Some authors suggest that, it was India where these contracts took birth, while some others suggest that

Explain the costs and benefits of being a remote island, Problem: 1.1 C...

Problem: 1.1 Clearly explain the costs and benefits of being a small and remote island or a ministate economy. 1.2 Over the years, the role of government has been defined al

Securitization structure of mortgage backed securities, A mortg...

A mortgage, is sold to the SPV at the discretion of the bank to securitize it into a mortgage backed security, that is, the mortgage is said to

Cost of equity share capital, Q. Cost of Equity Share Capital? Cost of ...

Q. Cost of Equity Share Capital? Cost of Equity Share Capital: - The cost of equity is the utmost rate of return that the company should earn on equity financed position of its

Write Your Message!

Captcha
Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd