Convertibles and Hedge Funds as Distributors of Equity Exposure

53 Pages Posted: 11 Mar 2010 Last revised: 23 Nov 2012

See all articles by Stephen J. Brown

Stephen J. Brown

New York University - Stern School of Business

Bruce D. Grundy

University of Melbourne

Craig M. Lewis

Vanderbilt University - Finance

Patrick Verwijmeren

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE)

Date Written: January 21, 2011

Abstract

By buying convertibles and shorting the underlying stock, hedge funds distribute equity exposure to well-diversified shareholders. We find that a higher fraction of a convertible is privately-placed with hedge funds when institutional ownership, stock liquidity, issue size, concurrent stock repurchases, and limitations on callability suggest that shorting costs will be lower. Firms with characteristics that make seasoned equity offerings expensive are also more likely to issue convertibles to hedge funds, and we show that firms issuing convertibles to hedge funds would have had significantly higher issue costs if they had instead chosen to issue seasoned equity. Discounts are not higher on convertibles issued to hedge funds, which is in line with hedge funds serving as relatively low-cost distributors of equity exposure rather than investors of last resort.

Keywords: Convertible securities, convertible arbitrage, hedge funds

JEL Classification: G2, G32

Suggested Citation

Brown, Stephen J. and Grundy, Bruce D. and Lewis, Craig M. and Verwijmeren, Patrick, Convertibles and Hedge Funds as Distributors of Equity Exposure (January 21, 2011). Available at SSRN: https://ssrn.com/abstract=1567260 or http://dx.doi.org/10.2139/ssrn.1567260

Stephen J. Brown

New York University - Stern School of Business ( email )

Stern School of Business
44 West 4th Street
New York, NY 10012-1126
United States
212-998-0306 (Phone)
212-995-4233 (Fax)

Bruce D. Grundy

University of Melbourne ( email )

Faculty of Economics & Commerce
Department of Finance
Victoria, 3010
Australia
+61 3 8344 9083 (Phone)
+61 3 8344 6914 (Fax)

Craig M. Lewis

Vanderbilt University - Finance ( email )

401 21st Avenue South
Nashville, TN 37203
United States

Patrick Verwijmeren (Contact Author)

Erasmus University Rotterdam (EUR) - Erasmus School of Economics (ESE) ( email )

P.O. Box 1738
3000 DR Rotterdam, NL 3062 PA
Netherlands

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