A convertible bond is a fixed-income corporate financial investment that pays interest but can be exchanged into a set number of common stock or equity shares at a later date. Converting a bond to stock can be done at any time throughout the bond’s life and is normally done at the bondholder’s choice.
Convertible bonds allow you to lose money.
Convertible bonds offer a higher potential for gain than corporate bonds, but they are also more exposed to losses if the issuer defaults (or fails to make its interest and principal payments on time).
What is the purpose of a convertible bond?
- Convertible bonds are corporate bonds that can be exchanged for the issuing company’s common stock.
- Convertible bonds are issued by companies to cut debt coupon rates and defer dilution.
- The conversion ratio of a bond decides how many shares an investor will receive in exchange for it.
- Companies can force bond conversion if the stock price is higher than the bond’s redemption price.
Is it wise to invest in convertible bonds?
- Because the investor can reclaim their original investment when the bond expires, the risk is minimal.
- Convertible bonds can help diversify a portfolio by lowering risk while preserving projected returns.
- Convertibles provide a higher rate of return than regular corporate bonds, and the investor can convert to take advantage of stock price gains.
- Convertibles can improve returns in a fixed income portfolio by providing exposure to equity-driven price gains while also reducing the impact of rising interest rates.
- Convertible bonds can help decrease negative risk in a stock portfolio without sacrificing all upside potential.
- Bondholders are paid before stockholders, thus investors have some protection against default before the conversion.
What are the characteristics of convertible bond funds?
- A convertible bond pays a fixed rate of interest but can be converted into a set number of common stock shares.
- The conversion of a bond to stock occurs at particular intervals during the bond’s life and is normally done at the bondholder’s option.
- A convertible bond is a hybrid asset that combines the benefits of a bond, such as interest payments, with the ability to buy the underlying stock.
What makes convertible bonds so appealing to investors?
The convertible bond, by this logic, allows the issuer to sell common stock at a better price than it is now. The convertible bond is appealing to buyers because it provides the possibility to earn the potentially substantial returns associated with stocks while maintaining the safety of a bond.
What makes a convertible bond attractive to an investor?
The fundamental benefit of include convertible bonds in a fund or portfolio is that they provide equity-like returns while also providing bond-like protection. Convertibles can be thought of as a substitute for direct stock investment. Dissecting the graph: The fair value of a convertible is depicted by the convertible price line.
When interest rates rise, what happens to convertible bonds?
Convertible bonds, like all fixed income securities, are subject to increased principal loss during periods of rising interest rates, as well as other risks such as credit quality changes, market valuations, liquidity, prepayments, early redemption, corporate events, tax ramifications, and other factors.
What is the frequency of interest payments on convertible bonds?
Convertible bonds, like standard bonds, pay interest based on the coupon rate, usually semi-annually. If the bond was not converted into common stock before the maturity date, the bond’s par value, which is usually $1,000, is returned to the bondholder.
Are dividends paid on convertible bonds?
Dividend-protected convertible bonds were issued after 2002 in the majority of cases. The protection is such that all but a liquidation dividend payment can affect the value of the shares into which the bond is convertible.
Are convertible bonds a safe investment?
Convertible bonds are a type of hybrid investment that provides some downside protection due to their bond classification, but can also be converted into the issuing company’s common stock in the future. These investments, however, are not without danger.