Glossarytaught in FI1.04
Embedded option
Also called embedded options, callable bond, putable bond.
An option written into a bond's terms: the issuer's right to call it early, the holder's right to put it back, or a conversion feature.
Because a call option belongs to the issuer, it's exercised when rates fall and refinancing is cheaper, which caps the holder's gain and creates negative convexity.
Any yield quoted on such a bond has to be adjusted for the option's value, which is what the option-adjusted spread measures.
Read the terms. With a call attached, a bond is a different instrument from one without.