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debt if the security is sold as corporate debt initially at time t = 0, but the holder of thesecurity can decide to exchange the
debt if the security is sold as corporate debt initially at time t = 0, but the holder of thesecurity can decide to exchange the corporate debt for a share of equity at time t = 1.Suppose that the face value of debt at maturity is 100, and the company issue one equityshare if the holder of the security decides to convert the debt. Suppose that the initialvalue of the company is C0 = 100, and that in each period the value of the company canbecome eu or ed of the previous value. We assume that u > 0 > d and u + d > 0.(a) Plot a binomial tree that corresponds to the pricing of the convertible debt in thetwo-period model.(b) Use the Snell envelop to determine the pricing of the convertible debt in this model.(Hint: At time 1, the holder will only exercise when the risk neutral value of conversionis larger than the value of keeping the debt.)
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