CFA Practice Question

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CFA Practice Question

Which statement(s) is (are) true?

I. The Black-Scholes option pricing model may be used to price a warrant if the underlying stock does pay dividends.
II. The YTM on a straight bond will always be higher than the YTM on a corresponding convertible bond.
Correct Answer: I and II

User Contributed Comments 5

User Comment
CoffeeGirl black schole for dividend paid warrant. no dividend entitled to warrant holder. exercise when dividend of underlying stock > interest cost.
exercise warrant will have dilutive effect on earning
holt for more clarity, Bonds with warrants does not issue dividends (it is still a debt, not an equity). Hence, Black Scholes model can still be applied for option pricing of the Warrant to value it.
adamzell Point II assumes the company is not distressed, in that case, the less secure (convertible) debt will have a much higher yield
GBolt93 why would the convertible debt be any less secure? as far as I know it's not subordinated to straight bonds. At most the conversion option is worthless and they would have equal yields wouldn't they?
gclafort @GBolt93 less secure because if you convert to equity and company is not doing well, bond value may be less.
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