eoin

I agree with you in that the first consideration should be just to look at the OAS. The greater the OAS, the greater your risk-free + OAS yield, and hence the cheaper bond value.

Now as for the situation with the option cost, if I had to venture a guess, it would be a scenario where the option cost is large and has high volatility. Greater volatility would mean there is a greater chance that the option cost would be greater, and therefore result in a smaller OAS. The probability may require testing. The general static model doesn't work (like a black-scholes) since it assumes a constant variance over values.

I'm not going to get bent out over it; the point is to know that you use the OAS to evaluate bonds with embedded options. I'm pretty sure you can guess the correct A, B, or C from there.

If I come across a "real" explanation, I'll report back.