CFA Level I · CFA Level I Exam · Forward Commitment and Contingent Claim Features and Instruments
Compared with an otherwise identical non-convertible bond from the same issuer, a callable convertible bond is most likely to:
The convertible will most likely offer a lower coupon. The holder owns an embedded option to convert into shares, which has value, so the issuer can compensate the investor through that option and pay less coupon than on an identical straight bond.
- Aoffer a lower coupon because the investor holds an embedded equity optionCorrect
- Boffer a higher coupon because conversion adds credit risk
- Chave the same coupon because the conversion feature has no value
Explanation
The conversion right is a call option on the issuer's shares held by the investor, which has value. Investors pay for it by accepting a lower coupon. The issuer's credit risk is not what drives a higher coupon, and the feature clearly has value.
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