The Survival Zone for a Bond with Both Call and Put Options Embedded

Posted: 14 Sep 1998

See all articles by Theodore Barnhill

Theodore Barnhill

George Washington University - Department of Finance

Spiros Martzoukos

University of Cyprus - Department of Public and Business Administration; George Washington University - School of Business

Abstract

We present a numerical method to price bonds that have multiple embedded options with an emphasis on the case with both long call and short put options. The valuation framework is a one-factor model for the term structure of interest rates where the instantaneous interest rate is allowed to follow a fairly general stochastic process. The equilibrium interest rates that define the free boundaries for the embedded call and put options are given. We demonstrate the survival zone within which a bond with both long call and short put options remains afloat. We show that even moderate levels of transaction costs can have a significant effect on exercise of options.

JEL Classification: G13, G12

Suggested Citation

Barnhill, Theodore and Martzoukos, Spiros Harilaos Spiridon, The Survival Zone for a Bond with Both Call and Put Options Embedded. Journal of Financial Research. Available at SSRN: https://ssrn.com/abstract=125629

Theodore Barnhill

George Washington University - Department of Finance ( email )

2023 G Street
Washington, DC 20052
United States

Spiros Harilaos Spiridon Martzoukos (Contact Author)

University of Cyprus - Department of Public and Business Administration ( email )

75 Kallipoleos Street
P.O. Box 20537
Nicosia CY-1678
CYPRUS
357-2-892474 (Phone)
357-2-892460 (Fax)

George Washington University - School of Business

Washington, DC 20052
United States
202-994-5996 (Phone)
202-994-5014 (Fax)

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