2022 GS Paper I, all questions

UPSC Prelims 2022 · GS Paper I

Question 65: Economy and Social Development

With reference to Convertible Bonds, consider the following statements :

  1. 1.As there is an option to exchange the bond for equity, Convertible Bonds pay a lower rate of interest.
  2. 2.The option to convert to equity affords the bondholder a degree of indexation to rising consumer prices.

Which of the statements given above is/are correct ?

a1 only
b2 only
cBoth 1 and 2
dNeither 1 nor 2

AnswerUPSC’s answer is (c).

A convertible bond lets the holder exchange it for the issuer's equity. Since the conversion option has value, investors accept a lower coupon than on a plain bond, so statement 1 is true. When prices rise, company earnings and share prices tend to rise with them, so a holder who converts shares in that rise, which gives some protection against inflation; that is the sense in which statement 2 is true.

  • 1. The valuable conversion option lets the issuer pay a lower coupon.
  • 2. Converting to equity lets the holder share in rising prices, a partial hedge against inflation.

How you could have got this

  1. If you were sure statement 1 is correct, (b) and (d) go: each of them leaves 1 out.

    What you needed to know: The valuable conversion option lets the issuer pay a lower coupon.

  2. Then, if you were sure statement 2 is correct, (a) goes: it leaves 2 out.

    What you needed to know: Converting to equity lets the holder share in rising prices, a partial hedge against inflation.

Only (c) is left. This one needs every statement.

Which options go is worked out from UPSC’s key and the options, not by a model.

Why each option is right or wrong
  • (a) Wrong. Statement 2 is also accepted as correct.
  • (b) Wrong. Statement 1 is also correct.
  • (c) Correct. Lower coupon, plus a hedge via equity.
  • (d) Wrong. Both statements are correct.

Worth knowing: Statement 2 uses 'indexation' loosely, but UPSC accepts the equity option as a hedge against rising prices.

Answer: UPSC’s key. Explanation: written by UPSC Grade, not by UPSC.

Practise this paper timedPrevious questionNext question

Source: UPSC, Civil Services (Preliminary) Examination 2022, General Studies Paper I, Series A. The paper on upsc.gov.in.