What is a convertible bond?

What is a convertible bond?

"One other important thing to remember is that the convertible bond market is an OTC market."

Convertible bonds (CBs) in the United States are highly liquid relative to other markets in the world. The CB markets in the U.S. are also of high importance in the globe along with Japan.

For investors, CBs are great because they offer the chance to profit from equities as they go up and at the same time it has insurance as well because of it being a bond. If everything goes well, the investment in the convertible bond will be paid back at maturity to commensurate for any losses if the stock does not do well. All this is possible because of the very nature of a convertible bond that has equity call option fixed in it.  

A lot of the bulge bracket investment banks such as J.P. Morgan, Morgan Stanley, Credit Suisse and Bank of America Merrill Lynch have a CB sales desk that trades convertible bonds with institutions such as mutual funds and hedge funds. One of the things investors can look to do to benefit from CBs is short the underlying stock. This is a form of CB arbitrage that hedge funds engage in.

One other important thing to remember is that the convertible bond market is an OTC market. The United States and Europe have much bigger and more sophisticated markets in comparison to the emerging economies in Asia so being familiar with the CB market in the U.S. is highly recommended and advantageous for Americans. It is often described by asset managers and investment professionals that the CB market is virtually a momentum market.

Basically, if stocks go up, then CBs will increase in value and vice versa.