THEORETICAL AND NUMERICAL VALUATION OF CALLABLE BONDS

Dejun Xie

The International Journal of Business and Finance Research, 2009, vol. 3, issue 2, 71-82

Abstract: This paper studies the value of a callable bond and the bond issuer’s optimal financial decision regarding whether to continue the investment on the market or call the bond. Assume the market investment return follows a stochastic model, the value of contract is formulated as a partial differential equation system embedded with a free boundary, defining the level of market return rate at which it is optimal for the issuer to call the bond. A fundamental solution of the partial differential equation is derived, and used to formulate the value of the bond. A bisection scheme is implemented to solve the problem numerically.

Keywords: Callable Bonds; optimal financial decision; stochastic model (search for similar items in EconPapers)
JEL-codes: D4 D46 G14 G15 (search for similar items in EconPapers)
Date: 2009
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Persistent link: https://EconPapers.repec.org/RePEc:ibf:ijbfre:v:3:y:2009:i:2:p:71-82

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