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Zero-coupon Convertible

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A bond that has no coupon and is convertible into the common stock of the issuing company is referred to as a zero-coupon convertible. A zero-coupon convertible is similar to a zero-coupon bond in that its value will fluctuate with changes in interest rates. A zero-coupon convertible differs from a zero-coupon bond in that its value increases as the share price of the issuing company increases. This occurs because the conversion feature of the zero-coupon convertible becomes more valuable with a rising share price. A zero-coupon convertible is sold at a discount to face value and matures at face value. As a result, reinvestment risk associated with zero-coupon convertible investments is minimal. An advantage associated with the zero-coupon convertible is the flexibility of choosing between accrued interest on the bond or recognizing capital gains on the conversion. The market for zero-coupon convertible securities is relatively illiquid so this security is seldom held by retail investors.



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