Consider two ten-year bonds, one that contains no embedded options and the other that gives its owner the right to convert the bond to a fixed number of shares of the issuer's common stock. The convertibility option in the second bond cannot be exercised for five years. The bonds are otherwise identical. Compared with the yield on the convertible bond, the yield on the option-free bond is most likely:
B is correct because the convertibility option provides a benefit to the investor, who will accept a lower yield on the convertible bond compared with the option-free bond.