Title page for ETD etd-05052009-115008

Document Type Master's Dissertation
Author Hariparsad, Sanveer
Email sanshimmy@iburst.co.za
URN etd-05052009-115008
Document Title The valuation and calibration of convertible bonds
Degree MSc
Department Mathematics and Applied Mathematics
Advisor Name Title
Prof E Mare Committee Chair
  • convertible arbitrage
  • credit and default risk
  • convertible bond valuation
  • calibration
  • negative convexity
Date 2009-09-02
Availability unrestricted
A convertible bond (CB) is a hybrid security possessing the characteristics of both debt and equity. It gives the holder the right to convert the bond into a pre-specified number of shares (usually by the same issuer of the CB) until maturity of the bond, and may also contain additional features such as callability and putability. CBs along with all hybrid securities are difficult to value due to their uncertain income stream. In this dissertation several convertible bond valuation models are suggested, but with particular attention to the calibration of the underlying inputs into the model and also by taking default risk into account, which is extremely important given the subordination of convertibles. The models range from the basic component models that decompose the CB into a straight bond and an exchange/call option; to more sophisticated ones consisting of stochastic interest rates, default risk, volatility structures, and even some exotics such as exchangeable and inflation-linked convertibles. An important aspect often missed by CB valuation models is the presence of negative convexity for extremely low share prices. As such a credit spread function dependent upon the underlying share price is introduced into the Tsiveriotis and Fernandes, and Hung and Wang models which improve upon the accuracy of the original models. Once a reliable model has been developed it becomes necessary to take advantage of convertible arbitrage trading strategies if they exist. The typical delta hedge, gamma hedge and option strategies that many convertible hedge funds employ are explained including the underlying risks with respect to the Greeks.

Copyright 2009, University of Pretoria. All rights reserved. The copyright in this work vests in the University of Pretoria. No part of this work may be reproduced or transmitted in any form or by any means, without the prior written permission of the University of Pretoria.

Please cite as follows:

Hariparsad, S 2009, The valuation and calibration of convertible bonds, MSc dissertation, University of Pretoria, Pretoria, viewed yymmdd < http://upetd.up.ac.za/thesis/available/etd-05052009-115008/ >


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