bond market structure question only, structure, question, market

ishfaque

Why would a bond with an embedded call option ever trade at a premium to a non call able bond with same coupon, maturity etc? The only time I could see is if rates were below the coupon and for some reason the bond hadn’t been called and rates moved up. THen it would outperform a ncb bond. Still dont see why it would trade at a premium though. The scarcity argument doesnt make sense to me at least for bonds with embedded call options.

mfleming1983

Agree with florinpop, the bond issuer of a callable bond, has to issue the bond at a discount, hence higher yield to the holder than a similar ncb to compensate the callable bondholder for risk of the bond being called. As long as rates are below a certain threshold (i.e. call price), the bondholder is happy earning the higher yield.

hw0799

I would assume it would be an embedded option for the holder. that is a convertible bond or one with a put option.I’ll check the book

joehogue

Look page 68 V4. Clearly states that bonds with embedded options trade at a premium price due to scarcity.
I also missed a question on the number 2 Schweyser exam on that. So that is how I will answer that type of question if it shows up on the test even though I dont understand why it should be and suspect it is actually wrong!

strikethree

it wouldn’t, it would trade at a yield premium