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The credit default swap on a three-year bond is trading at a spread (premium) of 1%. If the credit spread on the bond is at
The credit default swap on a three-year bond is trading at a spread (premium) of 1%. If the credit spread on the bond is at 1.1% (note the credit spread is given as the total return of the bond minus the benchmark rate, i.e., Libor rate. It should contain market risk premium, or we can assume market risk premium equals to zero), suggest a trade to take advantage of this arbitrage opportunity? (Assume you can nance the purchase of the bond at Libor at L).
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