Arbitrage Crashes in the Convertible Bond Market: The Effect of Slow Moving Capital and Market Segmentation

Kamilla Hansen & Kia Maire Fjorbak Rasmussen

Student thesis: Master thesis

Abstract

We develop a pricing model for convertible bonds subject to callability and default risk. Using the data of Dick Nielsen and Rossi (2013), we find that convertible bonds were traded at a discount to their theoretical prices during the arbitrage crashes of 2005 and 2008. Furthermore, we confirm that convertible bonds were cheaper than comparable non convertible bonds during the arbitrage crashes, and that the callability option affects bond price less than the convertability option. Our results shed new light on the analysis of the arbitrage crashes of 2005 and 2008 and confirm that the matching method of Dick Nielsen and Rossi (2013) does identify cheapness of convertible bonds relative to non convertible bonds.

EducationsMSc in Mathematics , (Graduate Programme) Final Thesis
LanguageEnglish
Publication date2014
Number of pages118