Chartered Institute of Stockbrokers (CISI) Professional Practice Exam

What do convertible bonds typically offer to investors?

1. A guaranteed interest rate

2. The option to convert into equity

3. A fixed repayment period

4. A higher coupon rate

The correct answer is: The option to convert into equity

Convertible bonds typically offer investors the option to convert their bonds into a predetermined number of shares of the issuing company's stock, which is a significant feature that appeals to many investors. This conversion option allows bondholders to benefit from potential increases in the company's equity value while still having the security of a fixed-income investment. Consequently, if the company's stock performs well, investors can convert their bonds into equity, allowing them to participate in any capital appreciation. This dual advantage makes convertible bonds particularly attractive in markets where a company's growth prospects are positive. The other answer choices do not correctly describe the primary appeal of convertible bonds. For instance, while guaranteed interest rates and fixed repayment periods are associated with many types of bonds, they do not capture the unique feature of convertibility. A higher coupon rate is not a defining characteristic either; convertible bonds often feature lower coupon rates compared to similar non-convertible bonds because of the added value that the conversion feature provides. This makes the option to convert into equity the key offering of convertible bonds.