Answer-first summary for fast verification
Answer: The subordinate callable debenture (Bond IV) has a higher price than the non-callable subordinate debenture (Bond II)
**Correct answer: B** Bond IV is **callable**, so it contains an embedded call option that is valuable to the issuer. Because of that embedded option, a callable bond must trade at a **lower price** than an otherwise similar non-callable bond. Therefore, statement **B is false**. Why the other statements are true: - **A is true:** Callable bonds can exhibit **negative convexity** at lower yields because as yields fall, the likelihood of being called rises, limiting further price appreciation. - **C is true:** The conversion price is: \[ \text{Conversion price} = \frac{\text{Par value}}{\text{Conversion ratio}} = \frac{1000}{20} = 50 \] - **D is true:** The conversion option is valuable to the investor, so the convertible bond typically offers a **lower yield** than a comparable non-convertible debenture. So the false statement is **B**.
Author: Manit Arora
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Q-506.3. Virtucon Corporation recently issued the following four bonds:
I. a senior secured bond
II. a subordinate debenture
III. a subordinate convertible debenture with a par value of $1,000 and a conversion ratio of 20
IV. a subordinate callable debenture
Further please note:
About Virtuocon’s capital structure, each of the following is true EXCEPT which is false?
A
The subordinate callable debenture (Bond IV) exhibits negative convexity at low yields
B
The subordinate callable debenture (Bond IV) has a higher price than the non-callable subordinate debenture (Bond II)
C
The conversion price of the convertible bond (Bond III) is $50.00
D
The yield on the convertible bond (Bond III) is lower than the yield on the subordinate debenture (Bond II)
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