In August 2021, Mineral Waters from Syldavia launched a twotranche bond of the same size:

Tranche A Tranche B Redemption at maturity in 10 years at maturity in 10 years Interest rate 8% + 1.5 × (ABY −

8.3%)

8% − 1.5 × (ABY −

8.3%)

Interest rate floor/ceiling 0%/16% 0%/16%

ABY = average bond yield on the Syldavian bond market.

On the launch date of the bond, the ABY was 8.3%.

Analyse the behaviour of these two bonds for different ABYs.

If you thought that interest rates were going to rise, which tranche would you choose?

Did Mineral Waters from Syldavia borrow at a fixed or a variable rate?

What were they expecting interest rates to do?

What advantages did this bond have for Mineral Waters from Syldavia?

AppendixLO1