Question 1
The advantage of a convertible bond to the investor is
◦ higher coupon interest rates.
◦ ability to "own the upside" if the company performs well.
◦ convertibility protects the investor if the stock decreases in value.
◦ none of these are advantages.
Question 2
You own a $1,000 par value convertible bond with a 6% coupon rate. The bond is convertible into 20 shares of stock at the investor's discretion. The stock price has reached $51 per share with a $1 per share annual dividend, but you do not forecast any further price appreciation in the stock. Should you make the conversion?
◦ No, 20 shares of stock are not worth $1,000.
◦ Yes, since the stock is worth $51 per share it is worth more than the bond.
◦ No, the total stock is only worth $20 more than the bond, and you would lose $40 in annual cash flow based on the coupon rate versus the dividend.
◦ Yes, while the stock is only worth $20 more in total than the bond, you will receive an annual $1 per share dividend.
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