CBs as a safe haven

CBs offer safe haven for uncertain investors

Convertible bonds offer a good hedge against uncertainty at current valuations, according to Lombard Odier.

Investors still unsure about the outlook for global growth are turning to convertible bonds (CBs) as a way to address the continued market volatility, according to Nathalia Barazal, head of convertible bonds management at Lombard Odier.

The global CB market is worth around $516 billion, with roughly 45% of issuance in the US, 25% in Europe and only 16% in Asia. Not surprisingly, 70% of CBs come from large-cap companies. Around one-third of all CBs are investment grade, while around 41% have been issued by unrated companies.

CBs are an equity investment with the protection of bonds, said Barazal, speaking at a briefing this week. “In this environment CBs are not the only answer, but it is one good answer,” she said. “There are not many places you can put money right now besides cash.”

Bankruptcies increase in volatile markets, but CB holders get paid ahead of shareholders in the event that a company enters bankruptcy.

Lombard Odier said that the recent market sell-off has created attractive opportunities for investors to buy CBs, especially in Asia. At the end of last month, three-quarters of CBs in Asia traded below theoretical fair values, compared to 59% in Europe and 38% in the US, according to the boutique private bank. Barazal added that around 50% of CBs in Asia are between 1% and 5% cheaper than the fair values, while 20% of CBs are 5% to 10% cheaper.

In fact, CBs have delivered good returns for investors since the financial crisis with the benchmark return higher than that for both equities and government bonds. The five-year rolling annualised volatility of return is 10.9% as opposed to 25% for equities, meaning that CBs have offered a higher return at a lower level of risk.

Lombard Odier is confident that there will be more CBs issued in the future and Asia is the most dynamic region for this asset class, given that it accounted for 25% of new issues globally in 2010. The region’s resilience in economic growth and increasing consumption, combined with the liquid market, has made Asian CBs an attractive option for global investors.

“We have seen strong interests on investors just by looking at asset management,” said Barazal. “In the Asia portion in just two years time we went from $200 million to $900 million.”

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