Research Of Two-Factor Pricing Model For Convertible Bonds Considering Credit Risk

Convertible bond has appeared in China securities market and developed rapidly in recent years. It has already ranked among the main financial instruments for listing companies and investment varieties at the second-market. It is of great significance to evaluate convertible bonds for issuing companies designing issuance provisions, investors reasoningly investing, and convertible bonds market developing healthily.This paper discusses convertible bonds market in China and at overseas based on former research achievements. It also summarizes theories and the last achievements about the pricing of convertible bonds in China and at overseas. By the main method of criterion analysis, the thesis analyzes the valuation of convertible bonds and some factors which affect convertible bonds. The result indicates that the valuation of convertible bond is made up of common security valuation and call option. The factors affecting the valuation of convertible bond include interest, limit, price of converting into bonds, call clause, and put clause.According to the situation of our country, five convertible bond pricing models are introduced and compared in detail. Aiming at the characteristics of Chinese securities market and the difficulties of the pricing, a stock and interest rated-based binomial-tree model with credit risk that accounts for all important convertible bond specifications is issued to carry out investigation of the impacts of stock price and the term structure of interest rates on the value of convertible bond. Also, a reasonable valuation for Chinese convertible bond is given by choosing the appropriate boundary conditions and input parameters. Furthermore, an empirical research is put forth on Chinese convertible market which indicates that most convertible bonds are under-priced and that the two-factor binomial-tree model much better describes individual prices in the market than stock-based one. Among several term structure models of interest rates, the nonlinear regress model is better than the linear one, compound interest model is better than simple one, and cubic spline model is better than exponential model. In the conclusion part, the theme and direction of further research are pointed out, and some suggestions are put forward during the development of our country's convertible bonds market.This thesis provides a comprehensive valuation framework of Chinese convertible bonds. The model has the higher precision compared with stock-based binomial-tree model. It opens the train of thoughts on further researches, and provides references for both issuers and investors.