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Fair Pricing of Equity-linked Notes

Reneby, Alexander LU (2016) NEKP03 20161
Department of Economics
Abstract
Following evidence of overpricing in structured products, I develop a comprehensive framework for pricing Equity-linked notes (ELNs). My model, unlike previous research, accounts for both the bank's actual funding costs and counterparty credit risk. I also allow for Asian payoffs in the derivative part — a feature now standard in ELN issuances. Studying a sample of eight ELNs issued by a Swedish bank during 2011 I find evidence of significant overpricing. Premia at time of issuance were on average 5.58% ranging between 2.53% and 10.54%. Additionally, when considering the full contract term I found significant average premia in bid quotes provided by the bank to markets of the same size. I finally conjecture that imbalances and fluctuations... (More)
Following evidence of overpricing in structured products, I develop a comprehensive framework for pricing Equity-linked notes (ELNs). My model, unlike previous research, accounts for both the bank's actual funding costs and counterparty credit risk. I also allow for Asian payoffs in the derivative part — a feature now standard in ELN issuances. Studying a sample of eight ELNs issued by a Swedish bank during 2011 I find evidence of significant overpricing. Premia at time of issuance were on average 5.58% ranging between 2.53% and 10.54%. Additionally, when considering the full contract term I found significant average premia in bid quotes provided by the bank to markets of the same size. I finally conjecture that imbalances and fluctuations in directions of trade flows could create incentives for banks to skew both bid- and offer quotes to lower levels, especially early in contract terms. (Less)
Please use this url to cite or link to this publication:
author
Reneby, Alexander LU
supervisor
organization
course
NEKP03 20161
year
type
H2 - Master's Degree (Two Years)
subject
keywords
Fair pricing, structured products, equity-linked notes, stochastic volatility
language
English
id
8893572
date added to LUP
2016-10-28 15:16:03
date last changed
2016-10-28 15:16:03
@misc{8893572,
  abstract     = {Following evidence of overpricing in structured products, I develop a comprehensive framework for pricing Equity-linked notes (ELNs). My model, unlike previous research, accounts for both the bank's actual funding costs and counterparty credit risk. I also allow for Asian payoffs in the derivative part — a feature now standard in ELN issuances. Studying a sample of eight ELNs issued by a Swedish bank during 2011 I find evidence of significant overpricing. Premia at time of issuance were on average 5.58% ranging between 2.53% and 10.54%. Additionally, when considering the full contract term I found significant average premia in bid quotes provided by the bank to markets of the same size. I finally conjecture that imbalances and fluctuations in directions of trade flows could create incentives for banks to skew both bid- and offer quotes to lower levels, especially early in contract terms.},
  author       = {Reneby, Alexander},
  keyword      = {Fair pricing,structured products,equity-linked notes,stochastic volatility},
  language     = {eng},
  note         = {Student Paper},
  title        = {Fair Pricing of Equity-linked Notes},
  year         = {2016},
}