Valuing Euro Rating-Triggered Step-Up Telecom Bonds

46 Pages Posted: 11 Mar 2003

See all articles by Patrick Houweling

Patrick Houweling

Robeco Investment Research

Albert Mentink

AEGON Group - AEGON Asset Management

Ton Vorst

VU University Amsterdam - Department of Finance and Financial Sector Management; Tinbergen Institute

Abstract

We value rating-triggered step-up bonds with three methods: (i) the Jarrow, Lando and Turnbull [1997, JLT] framework, (ii) a similar framework using historical probabilities and (iii) as plain vanilla bonds. We find that the market seems to value single step-up bonds according to the JLT model, while it values multiple step-up bonds as plain vanilla bonds. Further, step-up feature market premiums are more volatile than JLT and historical premiums, and the JLT model approximates market premiums always better than the historical method. Finally, most step-up bonds offer a cushion against rating migrations via dampened price movements.

Keywords: step-up bonds, rating-triggered, credit risk, reduced form models, Jarrow Lando Turnbull

JEL Classification: C13, G12, G13

Suggested Citation

Houweling, Patrick and Mentink, Albert and Vorst, Ton A.C.F., Valuing Euro Rating-Triggered Step-Up Telecom Bonds. Journal of Derivatives, Spring, pp. 63-80, 2004. Available at SSRN: https://ssrn.com/abstract=377700 or http://dx.doi.org/10.2139/ssrn.377700

Patrick Houweling (Contact Author)

Robeco Investment Research ( email )

Weena 850
Rotterdam, 3014 DA
Netherlands
+31-10-2243538 (Phone)

HOME PAGE: http://www.robeco.com/quant

Albert Mentink

AEGON Group - AEGON Asset Management ( email )

P.O. Box 202
2501 CE The Hague
Netherlands

Ton A.C.F. Vorst

VU University Amsterdam - Department of Finance and Financial Sector Management ( email )

De Boelelaan 1105
NL-1081HV Amsterdam
Netherlands

Tinbergen Institute ( email )

Gustav Mahlerplein 117
Amsterdam, 1082 MS
Netherlands

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