Scandinavian Working Papers in Economics
HomeAboutSeriesSubject/JEL codesAdvanced Search
Department of Finance, Copenhagen Business School Working Paper Series, Department of Finance, Copenhagen Business School

No 2004-6:
Modelling Callable Annuity Bonds with Interest-Only Optionality

Anders Holst and Morten Nalholm

Abstract: In this paper an investigation of the pricing of callable annuities with interest-only (I-O) optionality is conducted. First the I-O optionality feature of callable annuities is introduced. Next an algorithm for pricing callable annuities with I-O optionality using the finite difference methodology, is formulated. This is then used to investigate optimal strategies of I-O bonds and impacts on prices from the I-O optionality. It is found that the I-O feature necessitates a simultaneous valuation of all elements of the callable I-O bond. Following this, the Greeks of the I-O bond are investigated. It is found that they are affected by the I-O feature, but only to a limited extent. Finally, a model of heterogenous prepayment decisions is incorporated into the framework. The model is extended to model heterogeneity in the I-O exercise decisions. The incorporation of heterogeneity in borrower decisions is found to lead to reasonable causalities.

Keywords: Bonds; I-O optionality; (follow links to similar papers)

JEL-Codes: G00; (follow links to similar papers)

47 pages, June 1, 2004

Before downloading any of the electronic versions below you should read our statement on copyright.
Download GhostScript for viewing Postscript files and the Acrobat Reader for viewing and printing pdf files.

Full text versions of the paper:

7149    PDF-file
Download Statistics

Questions (including download problems) about the papers in this series should be directed to Lars Nondal ()
Report other problems with accessing this service to Sune Karlsson () or Helena Lundin ().

Programing by
Design by Joachim Ekebom

Handle: RePEc:hhs:cbsfin:2004_006 This page was generated on 2014-12-14 19:21:43