For a convertible bond, which of the following is least accurate? A) The issuer can decide when to convert the bonds to stock. B) The conversion ratio times the price per share of common stock is a lower limit on the bond’s price. C) A convertible bond may be putable.
B?
B? lower limit not necessarily. 1) If its callable, issuer always decide that. 3) It can either be callable or putable.
A. If the issuer could decide when to convert the stock then the stock price would not imply a lower bound for the bond’s price.
Your answer: B was incorrect. The correct answer was A) The issuer can decide when to convert the bonds to stock. All of these are true except the possibility of the issuer to force conversion. The bondholder has the option to convert. I agree to why A is wrong, because only bond holders decide on convertibility (assuming its not callable as its not given)… But how can B not be false ? i thought the lowest value of a conv bond is the staright value, which is precisely why conv bonds are attractive in the first place … no ?
Clearly A, didn’t even read B and C. "But how can B not be false ? " Because if the straight bond is worth more than the conversion option, that would be the lower limit of the price - it’s the greater of the two which gives you your lower bound, so B can be wrong, but is not always wrong. A is always wrong.
straight value: PV of future cash flows. that’s the value for any bond. with a convertible bond, on top of that, you can convert to stock if this yields more money than the straight value. so the price of the convertible bond is the higher of straight and conversion value. so both of them influence the minimum price.
skillionaire Wrote: ------------------------------------------------------- > which gives you your lower bound, so B can be > wrong, but is not always wrong. Technically, B is always true - it’s always a lower limit. The price can hit this limit - but it’s still a lower limit.
“Technically, B is always true - it’s always a lower limit.” If the value of the straight bond is greater than the value of the conversion option, the straight value is the lower limit, not the conversion option. I know you thought yourself quite clever in trying to argue semantics, but try to be correct next time that you’d like to do so, and please don’t do so with me. Thanks in advance.
skillionaire Wrote: ------------------------------------------------------- > Clearly A, didn’t even read B and C. > > "But how can B not be false ? " > > Because if the straight bond is worth more than > the conversion option, that would be the lower > limit of the price - it’s the greater of the two > which gives you your lower bound, so B can be > wrong, but is not always wrong. > > A is always wrong. Alright… that explains … thanks … but you got to give it to schweser for being as cryptic as one can be … almost 30% of their qbank qns border ambiguity …
skillionaire Wrote: ------------------------------------------------------- > “Technically, B is always true - it’s always a > lower limit.” > > If the value of the straight bond is greater than > the value of the conversion option, the straight > value is the lower limit, not the conversion > option. Just because there’s a “higher lower limit” doesn’t mean the conversion value isn’t still a lower limit. > I know you thought yourself quite clever in trying > to argue semantics, but try to be correct next > time that you’d like to do so, and please don’t do > so with me. I don’t do that because I want to appear clever. I do it because analyzing the statements in an accurate way can sometimes be key to getting an answer right. I do it because I could be wrong and then I’d like to be corrected. In this case I think my point is valid. But if you wish I will not respond to your statements in the future.
eros79 Wrote: ------------------------------------------------------- > For a convertible bond, which of the following is > least accurate? > > > A) The issuer can decide when to convert the > bonds to stock. > > > B) The conversion ratio times the price per share > of common stock is a lower limit on the bond’s > price. > > > C) A convertible bond may be putable. I would say A) is wrong because the conversion option (call on the stock) belongs to the holder, not the issuer who owns the call option on the bond. I also think that not all convertibles are systematically callable even if most are. B) straight value of the bond is the lower limit on the bond price. But theoretically also the conversion ratio * Price of stock should be the lower limit should the straight bond value fall. C) true So I am confused about B but in any case A is wrong I think.
"Just because there’s a “higher lower limit” doesn’t mean the conversion value isn’t still a lower limit. " I’m questioning if you understand what a limit is, so for simplicity’s sake, let’s try this out: (Hypothetically) My IQ is 120 Your IQ is 140 Someone wants to know what the lowest IQ that they could get by choosing one of our IQs at random. What is the lower limit? After you’ve answered that, apply that logic to the problem above, and then let me know if you’re sticking by your answer.
A “lower limit of x” means that the actual value can never drop below x. So, if somebody asks me for a lower limit of our IQs, I might as well tell them 115, because that’s also a lower limit. My point is, just because you found a better “lower limit” (the straight value) than mine (the conversion value) doesn’t mean that my limit is no longer a “lower limit”.
BTW, I see your point, of course. You assume that a limit is something that can actually be reached. The whole difference is that I don’t. In math, I know that my definition is correct. But perhaps Schweser questions use a different notion of “limits”. We don’t know. So, before we start running t-tests on each other’s IQ… I’ll call it a night.
I actually changed it from the original and gave you the higher hypothetical IQ, but this isn’t “mathematics”; this is “finance”, and a “limit” is the lowest possible bound for an answer, given relevant constraints. So, given the constraint that X>= (max, 120, 140), the lower limit is 120. It’s just that simple, really not sure how it can be argued. Regardless, we both have better things to do (hopefully) than beat this dead horse any further; good luck to you on the 6th.
skillionaire Wrote: ------------------------------------------------------- > I actually changed it from the original and gave > you the higher hypothetical IQ That’s what I thought 
> Regardless, we both have better things to do > (hopefully) than beat this dead horse any further; > good luck to you on the 6th. Absolutely. Good luck to you, too.
wow … so much for an innocuous little question … pretty much the story of this forum I guess
Thanks man - after that we can argue this kind of stuff until the cows come home.
skillionaire Wrote: ------------------------------------------------------- so B can be > wrong, but is not always wrong. > of course B is always correct - “The conversion ratio times the price per share of common stock is a lower limit on the bond’s price.” a true statement and a fact, always. the question clearly talks about “a lower limit” as opposed to “the lower limit” (whatever that may mean), which is the funky twist we are getting from skillionaire, and it’s pointless