From recent experience, we might infer that prices on the non-floored instruments will decline, but this is not automatic. I confess that I have been amazed at just how vigorously the income effect has been transmitted to prices over the past two years.

However, a decline in GOC-5 is not the only scenario.

If GOC-5 remains constant, the lower-coupon, higher-yielding issues should do better because they are higher yielding.

If GOC-5 increases, we can legitimately expect a rise in price in the lower-coupon issues, both due to mathematics (these issues have leverage to GOC-5, since the yield is calculated based on par value) and – less assuredly – due to a reversal of the effects of the last two years. We will not see any increase in the expected price of the new issue, because if it rises above par we have to expect a call. The call provision puts a cap on possible gains while putting no floor on possible losses.

So … do some scenario analysis with different expected values of GOC-5, assign probabilities to each GOC-5 level, calculate prices for each of the three issues in each scenario, and then combine all your numbers to find a probability distribution of prices for each issue. Have fun!

]]>Maybe you have already written about this.

Thanks.

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