What is the best method or financial model to use when putting a value on convertible debentures?
Monis, Kynex, Bloomberg, Thompson Reuters all have models. Typically some form of a binomial/trinomial tree is used, with a stochastic stock, interest rate, default process pricing the bond at each node and deriving a FV by discounting the credit spread. Many of the models use finite differences for a quick approximatation for the greeks. The convertible valuation can viewed as a Bond + Call Option OR Stock + Put Option or a blend.
ConvertArb Wrote: ------------------------------------------------------- > Monis, Kynex, Bloomberg, Thompson Reuters all have > models. Typically some form of a > binomial/trinomial tree is used, with a stochastic > stock, interest rate, default process pricing the > bond at each node and deriving a FV by discounting > the credit spread. Many of the models use finite > differences for a quick approximatation for the > greeks. > > The convertible valuation can viewed as a Bond + > Call Option OR Stock + Put Option or a blend. Thanks very much. Very helpful.
I personally like Crystal Ball’s (I believe a Cisco product) excel add-in which Monte Carlo’s binomial/trinomial trees.
Valuation of convertible bond is quite complex and can only be solved by numerical methods. See the paper: Is the jump diffusion model a good solution for credit risk modeling? the case of convertible bonds. http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2273296