Consider a Two-Year,annual Pay CDS Contract,where Premiums Are Paid at the End

question 16

Multiple Choice

Consider a two-year,annual pay CDS contract,where premiums are paid at the end of the year and if default occurs,it is also assumed to happen at the end of the year (but immediately after the premium payment) .Each year there is a 5% risk-neutral probability of the firm defaulting.In default,recovery is 50% (recovery of par,RP) .Assume that interest rates are zero.The fair price of this CDS is a spread of

• A)200 bps
• B)225 bps
• C)250 bps
• D)275 bps

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Definitions:

Incremental Sales

The additional sales generated by a particular business activity or decision.

Operating Expenses

Expenses that are incurred during the normal operation of a business, excluding the cost of goods sold.

Capital Budgeting

The approach of orchestrating and administering a business's enduring investments towards major initiatives or assets.

Straight-Line Depreciation

A scheme for apportioning the cost of a concrete asset over its lifespan in steady yearly payments.