Suppose that the price of the underlying stock for aconvertible bond is considerably higher than theconversion price. What would expect that convertiblebond's delta to be?
What will be an ideal response?
Delta ranges from 0 to 1 . The delta can help describe the character of the convertible bond. At one end of the spectrum is a delta of 1, which means that the convertible bond will mirror the movement in the underlying stock. Thus, for our situation where the stock price is considerably above the conversion price, we would expect a high that could be near one.
Another way of understanding that delta should be near one is to consider the meaning of delta and its application. For example, an option's delta measures the sensitivity of an option's price to a change in the price of the underlying. For an option on common stock, the underlying asset is common stock. In the case of a convertible bond, the underlying asset is the common stock of the issuer. Hence, a convertible bond's delta is the sensitivity of its value to a change in the underlying stock's price. For our situation where the stock price is considerably above
the conversion price the sensitivity is almost a one to one relation.
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