A convertible bond allows the holder to exchange the debt instrument into a specified number of common shares of the issuing corporation. A callable bond is a debt obligation that permits the corporation to redeem the bonds, at its election, prior to the specified maturity date.
In a declining interest rate environment, a corporation can reduce its interest costs by redeeming previously issued bonds prior to their original maturity or due date and reissuing them a lower interest rate.
Some callable bonds provide call protection to investors whereby the corporation cannot redeem the bonds prior to a specified future date.
In some cases, a corporation must pay its callable bondholders a premium if they exercise the right to call the bonds prior to the original maturity date.
Convertible bonds allow the holder to receive an annual interest rate plus the privilege of converting, at some future time, the debt instrument into a specified equity position of the business.
Since the conversion privilege has a certain intrinsic value, the interest or coupon rate payable on convertible bonds is usually lower than that payable by bonds which afford no conversion feature.
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