Investments: the advantages of convertible bonds
While the bank failures in the United States raised the specter of a global financial crisis – in particular that of the Silicon Valley Bank (SVB), on March 10 – the convertible bond market seems to be gradually regaining favor with investors in Europe.
The benchmark index for these financial products in the euro zone, the Exane ECI Euro, has risen by nearly 5% since the start of the year. This performance can be explained by the hybrid nature of convertible bonds, which makes them a relatively attractive investment medium for all savers looking for a compromise between security and performance.
Convertible bonds (CB) theoretically offer investors the possibility of benefiting from the performance potential of the equity market while protecting them against a fall in the stock market through their bond component. According to Ewen Picaud, manager at Prevaal Finance, “this financial instrument can be considered as a debt security (bond) issued on the market by a company, with the option of conversion into shares of the issuing company”.
In concrete terms, as for a traditional bond, the CB distributes regular income to investors until the final redemption date of the bond. With specificity: “The performance potential of the convertible bond lies in the conversion option”, says Nicolas Schrameck, co-head of the convertibles & credit division at Ellipsis AM. It gives investors the right to convert, at their convenience, their securities into a predetermined number of shares of the issuing company throughout the life of the CB, at a price fixed from the outset.
A particular risk profile
This price is generally higher, by 20% to 40%, than the stock market price prevailing at the time of the issue of the convertible bond. Consequently, if the share price of the issuing company increases, the price of its convertible bond will automatically be on the rise.
Conversely, if the share price of the issuing company falls, this conversion option will then be worth almost nothing. From then on, the value of the convertible bond will simply come down to its bond part. But, in this case, the risk of capital loss is limited, “unless the issuer is unable to repay its debt when due”says Ewen Picaud.
Due to this particular risk profile, bonds can appeal to investors looking for opportunities on the equity markets, without exposing them fully to the ups and downs of the stock market, “as shown by the recent stock market correction following the bankruptcy of the Silicon Valley Bank in the United States”, emphasizes Ewen Picaud. Another advantage: “The convertible bond market is very attractive today, given the rise in interest rates on the financial markets which now provides them with better remuneration”adds Nicolas Schrameck.
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