In the world of investing, specialists can play a key role. By focusing on a single segment of the market, such as master limited partnerships or real estate investment trusts (REITs), boutique firms can hone their stock-picking skills and analysis. By placing our investment dollars with these specialists, we gain access and expertise to these hard-to-understand asset classes.
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Convertible securities are in a hard-to-understand asset class. As a blend of both stocks and bonds, there are many aspects and variables to follow with this type of asset. Many factors affect the price of these investments, including the interest-rate climate (which affects the bond side) and the supply and demand for the underlying stock (which affects the stock side). Add in conversion covenants and we can see why these types of bonds often do not make it to the average retail investor's portfolio.
However, investors are missing out on an important feature of the asset type. At their most basic, convertible bonds and preferred shares provide a security blanket for investors. They act like insurance for investment. In 1995, Merrill Lynch conducted a study on technology convertible bonds. Through their findings it was discovered that converts provided 70% of the upside potential of the common stock while providing much higher protection on the downside.
Sticking With a Specialist
With the recent closing of the Vanguard Convertible Securities mutual fund to new investors, an easy way to access the convert markets was lost. Nevertheless, through the role of a specialist, the market for these assets can be accessed. Calamos Asset Management (NASDAQ: CLMS) began specializing in convertible bonds in the 1970s as a way to hamper risk. Since then the manager has grown to nearly $27 billion in assets under management, the bulk of which are converts. The asset managers offer several open-ended traditional mutual funds, but it is in their closed-end fund contributions that really shine.
Three Closed-End Jewels
The largest of Calamos' CEF jewels is in the Calamos Convertible and High Income Fund (NYSE: CHY) with nearly $990 million in assets. The portfolio includes a mix of convertible and high-yield bonds designed to provide enhanced income. This includes 40% in convertible bonds and preferreds. Some top holdings are Schering-Plough's (NYSE:SGP) preferred convert and miner Freeport McMoRan (NYSE: FCX) bonds. The fund pays a monthly dividend and yields a juicy 10%.
The Calamos Convertible Opportunities and Income (NYSE: CHI) seeks to enhance returns by spreading risk and reward among various credit ratings and security types. The fund is spread pretty evenly among sectors with information technology accounting for 15.4% of assets under management. The fund trades at a slight premium to net asset value and yields 10.07% at market price.
For investors wanting foreign convert exposure, the Calamos Global Dynamic Income Fund (NYSE: CHW) gives a 56% weighting towards non-North American stocks and bonds. Using a mixture of convertibles, corporate bonds and other high yielding common stocks, the fund hopes to achieve high current income with capital appreciation. The fund can write call options on its positions to provide additional income. Top holdings include food giant Nestle (OTC: NSRGY.PK) and game manufacturer Nintendo (OTC: NTDOY.PK). The fund currently is trading at a nearly 10% discount and provides a 9.82% dividend.
Convertible securities are often misunderstood by retail investors and therefore, are absent from many portfolios. However, they are attractive for investors wanting income and insurance from falling stock prices. By sticking with a specialist, in this case Calamos, investors are able to participate in the unique asset class while still maintaining daily tradability. The prior closed-end funds offer high yields and convert insurance. (To learn more, see The Mandatory Convertible: A "Must Have" For Your Portfolio.)
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