Theoritical Questions - Assignment Example

The key determinants to be considered in valuing convertible bonds are, the coupon rate offered, the time when the convertibility option can be exercised and the exercise price of the stock (Choudhry, 359). A bond warrant gives the holder of the instrument the right to “call” or “put” the bond whenever it wants. Moreover, unlike a convertible bond-wherein the underlying debt is repaid in cash or an equivalent amount of company stock--the warrant contract component of a warrant-bond can be sold separately to third parties while the original investor retains the straight bond component (Choudhry, 396).

Dividends are usually paid by corporations after the taxes have been deducted from the overall earnings of the company. However, in many countries, the investors may get taxed on the dividend payments that they receive. Therefore, the companies may plough back some of the earnings to avoid these taxes. Taxes decrease the cost of capital as the tax benefit comes with respect to coupon payments to bond holders. It helps to decrease the overall weighted average cost of debt (Ehrhardt and Brigham, 519).

Rationality is the key towards investing in the financial markets. Most investors are more often rational in their behavior while investing than not. However, there are many instances in which irrational behavior and repeated errors in judgment have been documented or witnessed in the financial markets. Irrational behavior can be exploited by finding out the overvalued and undervalued stocks, and investing accordingly. Trade credits, Bank over Drafts and Commercial Papers are few examples of short term financing sources that can be used by companies to pay salaries, coupon payments or other miscellaneous expenses (Shim and Siegel, 133).

Depending too much on some of these short term sources finance often give a wrong signal and may