Pricing Sovereign contingent convertible debt

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Abstract

We develop a pricing model for Sovereign Contingent Convertible bonds (S-CoCo) with payment standstills triggered by a sovereign's Credit Default Swap (CDS) spread. We model CDS spread regime switching, which is prevalent during crises, as a hidden Markov process, coupled with a mean-reverting stochastic process of spread levels under fixed regimes, in order to obtain S-CoCo prices through simulation. The paper uses the pricing model in a Longstaff-Schwartz American option pricing framework to compute future state contingent S-CoCo prices for risk management. Dual trigger pricing is also discussed using the idiosyncratic CDS spread for the sovereign debt together with a broad market index. Numerical results are reported using S-CoCo designs for Greece, Italy and Germany with both the pricing and contingent pricing models.
Lingua originaleEnglish
pagine (da-a)1-34
Numero di pagine34
RivistaInternational Journal of Theoretical and Applied Finance
Volume21
Stato di pubblicazionePublished - 2018

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All Science Journal Classification (ASJC) codes

  • Finance
  • Economics, Econometrics and Finance(all)

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