On the Pricing of Contingent Capital Notes

24 Pages Posted: 13 Dec 2011

See all articles by Dilip B. Madan

Dilip B. Madan

University of Maryland - Robert H. Smith School of Business

Date Written: December 13, 2011

Abstract

A bank's stock price is modeled as a call option on the spread of random assets over random liabilities. The logarithm of assets and liabilities are jointly modeled as driven by four variance gamma processes and this model is estimated by calibrating to quoted equity options seen as compound spread options. On defining risk-weighted assets as asset value less the bid price plus the ask price of liabilities less the liability value we endogenize capital adequacy ratios following the methods of conic finance for the bid and ask prices. All computations are illustrated on CSGN.VX, ADRed into USD on March 29, 2011.

Keywords: Quanto Option Surface, ADR Option Surface, Spread Option, Two Price Theory, Analytical Risk Weighted Assets

JEL Classification: G10, G12, G13

Suggested Citation

Madan, Dilip B., On the Pricing of Contingent Capital Notes (December 13, 2011). Available at SSRN: https://ssrn.com/abstract=1971811 or http://dx.doi.org/10.2139/ssrn.1971811

Dilip B. Madan (Contact Author)

University of Maryland - Robert H. Smith School of Business ( email )

College Park, MD 20742-1815
United States
301-405-2127 (Phone)
301-314-9157 (Fax)

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