With reference to Convertible Bonds, consider the following statements: 1. As there is an option to exchange the bond for equity, Convertible Bonds pay a lower rate of interest. 2. The option to convert to equity affords the bondholder a degree of indexation to rising consumer prices. Which of the statements given above is/are correct?

Answer: C. Both statements about Convertible Bonds are correct. CONVERTIBLE BONDS are a hybrid debt instrument that can be CONVERTED INTO EQUITY SHARES of the issuing company at predetermined terms (conversion ratio, conversion price). They are issued by companies and have features of both debt and equity. Statement 1 is CORRECT. The OPTION TO CONVERT INTO EQUITY gives the bondholder potential UPSIDE PARTICIPATION if the company's stock rises. Because of this 'equity kicker', investors are willing to accept a LOWER COUPON than they would demand on a comparable straight bond. This is the bond-with-call-option pricing equivalence: the option value reduces the required coupon. Statement 2 is CORRECT. The option to convert provides indirect INFLATION INDEXATION because rising inflation typically pushes nominal corporate earnings and stock prices up over the long term. When stock prices rise, the convertible bond's value rises through its equity exposure, providing protection that pure fixed-coupon bonds lack against inflation. Source: NCERT Class 12 Business Studies / Securities Markets in India textbooks.