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Pricing commodity bonds using binomial option pricing

Author

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  • Rajan, Raghuram

Abstract

Commodity linked bonds have received considerable attention recently as a way to tailor a developing country's debt repayments to its ability to pay. This report presents a method for pricing commodity-linked bonds in the presence of default risk and a commodity price risk. The advantage of this method is that extensions are very simple. Following an introduction, in part 2 of the report a simple version of the bond is priced to make the process transparent. In part 3, the parameters of the model are derived from real world values. In part 4 the model is extended to incorporate the various features that these bonds can include. Part 5 contains come comparisons of the values obtained by the model with those obtained by the Schwartz model.

Suggested Citation

  • Rajan, Raghuram, 1988. "Pricing commodity bonds using binomial option pricing," Policy Research Working Paper Series 136, The World Bank.
    • Handle: RePEc:wbk:wbrwps:136
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    Cited by:

    1. Zonggang Ma & Chaoqun Ma & Zhijian Wu, 2022. "Pricing commodity-linked bonds with stochastic convenience yield, interest rate and counterparty credit risk: application of Mellin transform methods," Review of Derivatives Research, Springer, vol. 25(1), pages 47-91, April.
    2. Calum G. Turvey, 2006. "Managing food industry business and financial risks with commodity-linked credit instruments," Agribusiness, John Wiley & Sons, Ltd., vol. 22(4), pages 523-545.
    3. Shee, Apurba & Turvey, Calum G., 2008. "Commodity Linked Credit: A Risk Management Instrument for the Agrarians in India," 2007 Agricultural and Rural Finance Markets in Transition, October 4-5, 2007, St. Louis, Missouri 48139, Regional Research Committee NC-1014: Agricultural and Rural Finance Markets in Transition.

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