The Rise and Demise of the Convertible Arbitrage Strategy

Posted: 8 Oct 2009

See all articles by Igor Loncarski

Igor Loncarski

University of Ljubljana - Faculty of Economics

Jenke ter Horst

TIAS School for Business and Society

Chris Veld

Monash University

Multiple version iconThere are 2 versions of this paper

Date Written: October 7, 2009

Abstract

This article analyzes convertible arbitrage, one of the most successful hedge fund strategies. The aim of the strategy is to exploit underpricing of convertible bonds by taking a long position in a convertible and a short position in the underlying asset. The authors find that convertible bonds are underpriced at the issuance dates; at the same time, short sales of underlying equity increase significantly. Both effects are stronger and more persistent for equity-like convertibles than for debtlike convertibles. Furthermore, short-sale pressures negatively affect stock returns around the announcement and issuance dates of convertibles. All these factors have likely contributed to the shift toward issuing more debtlike convertibles in recent years, which, in turn, has substantially lowered the returns from convertible arbitrage.

Keywords: Alternative Investments, Hedge Fund Strategies, Equity Investments, Fundamental Analysis and Valuation Models, Research Sources, Portfolio Management, Hedge Fund Strategies

Suggested Citation

Lončarski, Igor and ter Horst, Jenke R. and Veld, Chris, The Rise and Demise of the Convertible Arbitrage Strategy (October 7, 2009). Financial Analysts Journal, Vol. 65, No. 5, 2009. Available at SSRN: https://ssrn.com/abstract=1484823

Igor Lončarski (Contact Author)

University of Ljubljana - Faculty of Economics ( email )

Kardeljeva ploscad 17
Ljubljana, SI-1000
Slovenia
+386 5892 628 (Phone)
+386 5892 698 (Fax)

Jenke R. Ter Horst

TIAS School for Business and Society ( email )

Warandelaan 2
TIAS Building
Tilburg, Noord Brabant 5037 AB
Netherlands

Chris Veld

Monash University ( email )

Building 11E
Clayton, Victoria 3800
Australia

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