Question

Provide an example of an additional provision that may be included with a bond and the impact on the coupon rate that adding this provision would have at the time of issuance. Finally discuss when a company would be motivated to exercise a call provision on the bond and the risk to which this exposes the bondholder.

Answer 1

if we add convertible feature to the overall bond that means that the bond has an additional capability of being converted into the shares of the company at some future specified date, then the coupon rate which is associated with those kind of bonds will be lower in comparison because it will be compensated by the convertible feature.

Company would be motivated to exercise the call option because if a company feels that the prevalent market interest rate is much lower and it is paying a higher rate of interest to its bondholders it will be motivated to call its bonds before maturity and it can refinance them

Callable bonds are always an instrument of uncertainty on the part of bondholder because they do not know when the issuer is going to call upon them and exercise his rights.