Chartered Financial Analyst (CFA) Practice Exam Level 2

What is represented by the term 'mkt conv ratio' in convertible bond analysis?

1. The relationship between market price and the conversion ratio

2. The ratio of debt to equity in a company

3. The average yield on corporate bonds

4. The total outstanding bond issues

The correct answer is: The relationship between market price and the conversion ratio

The term 'mkt conv ratio' in convertible bond analysis specifically refers to the relationship between the market price of the convertible bond and its conversion ratio, which indicates how many shares of stock an investor receives upon conversion of the bond into equity. The conversion ratio is a key feature of convertible bonds; it determines the number of shares an investor will get for each bond at the time of conversion. When analyzing convertible bonds, investors look closely at the market conversion ratio because it reflects the bond's value in light of the current parity of the bond to the underlying equity. Understanding the relationship between the market price of the convertible bond and the conversion ratio allows investors to assess whether the bond is trading above or below its conversion value, influencing decisions on buying or selling the bond. This insight is crucial; if a convertible bond is priced too low relative to its conversion value, it may represent a buying opportunity. Conversely, if it trades at a premium, that could signal overvaluation. Concepts such as the ratio of debt to equity in a company, average yield on corporate bonds, or the total outstanding bond issues do not directly relate to the market conversion ratio as it specifically pertains to the evaluation of convertible bonds and their equity conversion feature.