Swaption quiz challenge challenge, about, paying, annual

Zesty

You issued a non-callable bond paying 8% annual coupon but would like make it callable. How would you go about doing this using a swaption? Demonstrate with cash flows.

thommo77

agreed with long receiver swaption.

What's 7 bpdulog?

jmh530

stevenevans Wrote:
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> Let me know whether this analysis is correct.

You are making it way too complicated.

When you buy a receiver swaption, you have paid a premium for it.

When interest rates go down, you would not want to pay the 8% on the coupon. So you exercise the swaption. Cash flows:

Pay 8% on bond
Receive 8% of fixed side of swap
Pay LIBOR (which has gone down)

NET: Pay LIBOR.

When interest rates go up, you are quite happy that you only have to pay 8%. So you do not exercise the swaption. Cash flows:
Pay 8% on bond.

mik82

the question says, you issued the bond, therefore if you want to have positive convexity (as on short callable) you need to buy the option (receivers)

susana

Got it, my apologies -- I was looking at this from the investor perspective, not the issuer

I'm stupid, really stupid!