With reference to Convertible Bonds, consider the following statements: 1. As there is an option to exchange the bond for equity, Convertible Bonds pay a lower rate of interest. 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?

Convertible Bonds are a type of debt instrument that gives the bondholder the option to convert the bond into a pre-determined number of equity shares of the issuing company at a specified price during a certain period.

1. As there is an option to exchange the bond for equity, Convertible Bonds pay a lower rate of interest: This statement is correct. Because convertible bonds offer the investor the potential for capital appreciation (if the stock price rises and they convert to equity) in addition to fixed income payments, they are typically issued with a lower coupon (interest rate) compared to non-convertible bonds of similar credit quality. The conversion feature acts as an added benefit, compensating for the lower interest rate.
2. The option to convert to equity affords the bondholder a degree of indexation to rising consumer prices: This statement is incorrect. Indexation to rising consumer prices (inflation) is a feature typically found in inflation-indexed bonds, where the principal or interest payments are adjusted based on an inflation index. Convertible bonds' value is linked to the performance of the underlying equity. While equity markets might react to inflationary environments, there is no direct mechanism within convertible bonds that provides "indexation to rising consumer prices." Their primary benefit related to equity is capital appreciation, not inflation protection. Therefore, only statement 1 is correct.