Municipal Convertible

Most convertible bonds are issued by a company, and change from a debt security into shares of stock. So the conversion included in the name refers to a change from debt into equity. The investor, under certain circumstances, becomes a part owner in the firm, if the conversion takes place.

But how would that work in a municipal bond? Would the holder get to be mayor for a certain period of time?

As it turns out, the conversion that takes place with a municipal convertible involves trading one form of debt for another. The municipal convertible starts life as a zero-coupon bond. That situation means the security doesn't pay any interest. Instead, it gets sold at a discount, meaning the investor makes some money if they hold it to maturity.

However, under pre-set conditions, the investor can convert the zero-coupon version for an interest-paying bond. In this form, the security would provide regular payments (known as a coupon). And, because it counts as a muni bond, these coupon payments would not be taxed by the federal government.