O'Reilly logo

CAIA Level II: Advanced Core Topics in Alternative Investments, 2nd Edition by CAIA Association

Stay ahead with the world's most comprehensive technology and business learning platform.

With Safari, you learn the way you learn best. Get unlimited access to videos, live online training, learning paths, books, tutorials, and more.

Start Free Trial

No credit card required

34.2 TERMINOLOGY

Convertible bonds give holders the right to exchange the bonds for common shares of the issuer at a stated ratio during a particular period. They are complex securities that blend the characteristics found in equity, debt, and option securities. As a result, traders and arbitrageurs have developed specialized terminology to describe various aspects of the marketplace. For the sake of simplicity, assume it is now January 1, 2012, and that a hypothetical convertible bond is denoted as XYZ convertible 2% 2016. Exhibit 34.1 describes the various parameters that characterize this convertible bond.

EXHIBIT 34.1 Summary of the Terms Offered by the XYZ Convertible 2% 2016 Bond

Fixed-Income Features
Issuer XYZ Company Inc.
Rating BBB
Coupon C = 2% (annual)
Issue date January 1, 2012 (today)
First coupon date December 31, 2012 (in one year)
Accrued interest 0
Maturity December 31, 2016 (in T = 5 years)
Nominal value $1,000
Risk-free rate Rf = 4% per year
Issuer credit spread CS = 400 basis points (bps) above the risk-free rate
Equity Features
Issuer XYZ Company Inc.
Stock price S0 = $100 per share
Stock price change volatility σ = 30% per year
Stock dividend None
Conversion Features
Conversion ratio CR = 8
Conversion price $125.00
Call protection None
Market Valuation
Convertible market price 90 (i.e., 90% of face value)
Parity 80 (i.e., 80% of face value)
Conversion premium 12.50%

The fixed-income features of the convertible ...

With Safari, you learn the way you learn best. Get unlimited access to videos, live online training, learning paths, books, interactive tutorials, and more.

Start Free Trial

No credit card required