Question #92 - Reading 27 Valuation and Analysis of Bonds With Embedded Options

Reading: Reading 27 Valuation and Analysis of Bonds With Embedded Options - Anwers

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Shared Context

- Johnson asks Wall to compute the value of the call option. Using the given information what is the value of the embedded call option? A) $0.00. B) $1.21. C) $2.04. Explanation The call option value is simply the difference between the value of the callable and the non-callable bond. Call Option Value = $100.83 − $98.79 = $2.04 (Module 27.2, LOS 27.f)

Question

Wall is a little confused over the relationship between the embedded option and the callable bond. How does the value of the embedded call option change when interest rate volatility increases? The value:

Answer Choices:

A. may increase or decrease

B. increases

C. decreases. Explanation All option values increase when the volatility of the underlying asset increases. (Module 27.2, LOS 27.f)

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