Question
In: Finance
If an investor buys a 12-month credit spread put option on XYZ Ltd.’s bond with a...
If an investor buys a 12-month credit spread put option on XYZ Ltd.’s bond with a strike spread of 150bps for a premium of 55 bps, what is the appropriate course of action if XYZ Ltd’s spread tightens to 50bps? Widens to 250bps? What is the breakeven level of trade? Illustrate your answers with the bond value movements.
Solutions
Expert Solution
Since the investor has bought a put option, he/she would benefit if the spread goes down or tightens. If the spread tightens to 50 bps, his/her profit would be = (150 - 55 - 50) = 45 bps. If it widens to 250 bps, there would be 0 payoff from the put but since he has paid the premium of 50 bps, he would have a net loss of 50 bps. The breakeven level of trade would be = 150 - 55 = 95 bps.
jeff jeffy answered 2 years agoRelated Solutions
If an investor buys a 12-month credit spread put option on XYZ Ltd.’s bond with a...
If an investor buys a 12-month credit spread put option on XYZ
Ltd.’s bond with a strike spread of 150bps for a premium of 55 bps,
what is the appropriate course of action if XYZ Ltd’s spread
tightens to 50bps? Widens to 250bps? What is the breakeven level of
trade? Illustrate your answers with the bond value movements.
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