Question #90
Reading: Reading 27 Valuation and Analysis of Bonds With Embedded Options
PDF File: Reading 27 Valuation and Analysis of Bonds With Embedded Options.pdf
Page: 28
Status: Unattempted
Question
For a callable bond, the value of an embedded option is the price of the option-free bond:
Answer Choices:
A. minus the price of a callable bond of the same maturity, coupon and rating
B. plus the price of a callable bond of the same maturity, coupon and rating
C. plus the risk-free rate. Patrick Wall is a new associate at a large international financial institution. Wall has recently completed graduate school with a Master's degree in finance, and is also currently a CFA Level I candidate. His previous work experience includes three years as a credit analyst at a small retail bank. Wall's new position is as the assistant to the firm's fixed income portfolio manager. His boss, Charles Johnson, is responsible for getting Wall familiar with the basics of fixed income investing. Johnson asks Wall to evaluate the bonds shown in Table 1. The bonds are otherwise identical except for the call feature present in one of the bonds. The callable bond is callable at par and exercisable on the coupon dates only. Table 1: Bond Descriptions Non-Callable Callable Bond Price $100.83 $98.79 Time to Maturity (years) 5 5 Time to First Call Date -- 0
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