Why do convertible bonds usually pay a lower rate of interest than non-convertible bonds?

Convertible bonds typically pay a lower rate of interest than non-convertible bonds because they come with an added benefit: the option for investors to convert the bond into a predetermined number of shares of the issuing company's common stock. This conversion feature provides the bondholders the potential to participate in the appreciation of the company's stock price over time.

Investors are often willing to accept a lower yield on convertible bonds because of this upside potential. When the underlying stock performs well, the value of the bond can increase significantly due to the opportunity for conversion, thus compensating for the lower interest payments. This makes convertible bonds attractive to investors who are looking for growth opportunities alongside fixed income.

In contrast, non-convertible bonds do not offer this feature and are typically seen as safer options, leading them to carry higher interest rates to attract investors.