tailieunhanh - Convertible Bonds with Call Notice Periods

Convertible bonds (or convertibles) have become an important instrument in the financial markets. Having properties of both stocks and bonds, convertible bonds can be an attractive alternative for investors. Studies suggest that the average return of convertible bonds in the last few years were as high as the returns of the stock market, although they incorporate a lower risk [vdHKL02, LR93]. There are different reasons for a company to issue convertible bonds. Tax considerations in some countries lead to an advantage in issuing convertibles instead of bonds. Another possibility is that a small, fast growing company needs a debt but has poor credit rating. The convertible bond. | Convertible Bonds with Call Notice Periods Andreas J. Grau Peter A. Forsyth Kenneth R. Vetzal School of Computer Science University of Waterloo Canada March 2003 Abstract In practice convertible bonds can often be called only if notice is given to the holders. Most methods for valuing convertible bonds assume that the bond is continuously callable. In this paper we develop an accurate PDE method for valuing convertible bonds with a finite notice period. Example computations are presented which illustrate the effect of varying notice periods. The results are compared with a recently published approximation method. 1 Introduction Convertible bonds or convertibles have become an important instrument in the financial markets. Having properties of both stocks and bonds convertible bonds can be an attractive alternative for investors. Studies suggest that the average return of convertible bonds in the last few years were as high as the returns of the stock market although they incorporate a lower risk vdHKL02 LR93 . There are different reasons for a company to issue convertible bonds. Tax considerations in some countries lead to an advantage in issuing convertibles instead of bonds. Another possibility is that a small fast growing company needs a debt but has poor credit rating. The convertible bond market is not as standardized as the exchange traded stock market. Convertibles can incorporate a variety of features. The instrument might be convertible into shares of the issuing company or in some cases into shares of a different company. Usually convertibles may be converted by the holder at any time. Often these bonds can be put to the issuer at specific dates for a guaranteed price. In addition the issuer may have the right to redeem the convertible at a call price or force a conversion into stocks. To keep the convertibles attractive in this case so called soft and hard call constraints are devised. The hard call constraint prohibits a forced conversion in the initial

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