A Pricing Model of Credit Rating Migration Included in Existence of an Upper Bound on Dividends

Abstract:

This paper considers the pricing of zero-coupon bonds with an upper bound on the dividends on the firm’s assets in the presence of a possible credit rating migration of the bond issuer. Firms were classified into two credit rating statuses， high and low based on its assets， and the change in the value of the firms’ assets satisfied the geometric Brownian motion with the dividend rate， and the change in the value of the firms’ assets satisfied the ordinary geometric Brownian motion when the number of cumulative dividends reached the expected value， taking into account that there was a plan for expected dividends on the firms’ assets. By calculating the value of corporate bonds under this model， the risk of credit rating migration was then assessed， while hedging was used to derive the conditions at the credit rating migration boundary. An innovative risk assessment model including credit rating migration was established， and then the eigenline implicit format difference method was used to solve it， and the numerical solution of the company’s asset value was obtained and its financial significance was analyzed.