The position of a bondholder that is long a callable bond is equal to being
A) Long a noncallable bond + long a call option on the bond.
B) Long a noncallable bond + short a call option on the bond.
C) Short a noncallable bond + long a call option on the bond.
D) Short a noncallable bond + short a call option on the bond.
E) None of the above.

Question

Quizplus · Accepted Answer

When a bondholder is long a callable bond, they own a noncallable bond but also have sold (shorted) a call option on the bond to the issuer. This means they have the potential obligation to sell the bond back to the issuer at a specified price, but they also receive a premium for selling the call option. Therefore, being long a callable bond is equivalent to being long a noncallable bond and short a call option on the bond. Choice B is the closest to this description.

The Position of a Bondholder That Is Long a Callable