This made me think for a min… Which of the following statements regarding callable bonds is/are correct? 1: With rising yields, a callable bond will outperform an option-free bond. 2: An embedded call option can be traded separately from the udnerlying bond, A: 1 Correct, 2 Correct B: 1 Correct, 2 Incorrect C: 1 Incorrect, 2 Correct D: 1 Incorrect, 2 Incorrect
b
Yep… B was correct! I made the same mistake and thought it was D first time round…
you have to think about the definition of “outperform” when considering losses…
when yields are rising, the price of a callable bond is falling less , due to the price of call option offset some decline in option-free bond? So statement 1 is definitely true. Now regarding statement 2, shouldn’t it be true? i surely should be able to strip out the option freeness and the option cost from the callable bond and sell them separated for each of its worth?