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Equity-Credit Modeling for Contingent Convertibles


Contingent convertibles are characterized by forced equity conversion under accounting trigger, which occurs when the capital ratio of the issuing bank falls below some contractual threshold. Also, under the point-of-non-viability trigger, the supervisory authority may enforce equity conversion when the financial health of the bank deteriorates to the distressed level. In this paper, we propose an equity-credit modeling of the joint process of the stock price and capital ratio that integrates both the structural approach of accounting trigger and reduced form approach of point-of-non-viability trigger of equity conversion. We also construct effective Fortet algorithms and finite difference schemes for numerical pricing of CoCo bonds under various forms of equity conversion payoff. The pricing properties of the CoCo bonds under various contractual specifications and market conditions are examined.