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The 5-year CDS is trading at 2% (200 bps). The 5-year T-bond is trading at...

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Finance

  1. The 5-year CDS is trading at 2% (200 bps). The 5-year T-bond is trading at a yield of 4%. Assuming a recovery rate of 50%, and assuming that there are no intermediate cash flows, what is probability of default?
  2. suppose the 5-year bond issued is trading at a yield of 5.5%, while the 5-year CDS is trading at 2%. If the 5-year T-bond is trading at a yield of 4%, do you see any evidence of mispricing? What is the trade you would place to take advantage of this mispricing and what may be the practical considerations that make this trade difficult to execute?

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