Convertibles have already proved their worth. They were almost tailor-made for such circumstances such as the shock at the start of the pandemic
A convertible is a bond with an option to swap for shares of common equity. Last year $159bn-worth were issued worldwide, according to figures compiled by Calamos Investments, an asset manager. This was around twice the value of convertibles issued in 2019. So far this year around $100bn-worth have been issued. An asset class that had fallen out of fashion is back in vogue. That is because convertibles are well-suited to fast-changing conditions.
Convertibles may be complex securities, but in some circumstances they have clear advantages over straight debt or equity for both issuers and investors. This is the case for unproven firms in capital-hungry businesses. The founders of such firms are often reluctant to issue equity, because it dilutes their ownership. They would prefer to issue debt. But bond investors might demand a steep interest rate to compensate for the risk of default. Convertible bonds can be an ideal compromise.
This flurry of issuance is quite a shift. The market for convertibles was previously rather moribund, even as high-yield bonds and leveraged loans enjoyed a boom. The absence of meaningful inflation meant that long-term interest rates steadily fell. Bond investors enjoyed healthy capital gains. At an aggregate level, the trend in American corporate finance was to swap equity for debt, and not the other way round.
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