The Market Price of Convertible Loan Stocks.

Abstract

It is not a new idea for debenture or loan stocks to be issued with an option to the lender to convert the whole or part of his holding into ordinary shares at fixed prices on certain future dates or during certain periods. There has in recent years been an increase in the number of these stocks available to the British investor and there is also a substantial number that have been issued in the U.S.A. and Canada. A typical example is the Bowater Paper Corporation Limited 5¾ % Convertible Unsecured Loan Stock 1978–82. In July 1959, holders have the right to convert each £50 of loan stock into twenty-one £1 Ordinary shares; in July 1960, into twenty Ordinary shares; and in July 1961, into nineteen Ordinary shares. There are no conversion rights after July 1961 and any stock not converted by that date will remain as a normal unsecured loan stock redeemable in the period from 1978 to 1982.The existence of this option is, of course, attractive to the investor and this is reflected in the market price of the stock. The problem is how to determine the portion of the market price that represents the cost of the option. Of the many features that, no doubt, affect the position, the most significant seems to be whether the option is remote or not.