Chinese Hedge

DEFINITION of 'Chinese Hedge'

A position that protects investors from risk, involving a short position in a convertible security and a long position in its underlying asset. The Chinese hedge looks to capitalize on mispriced conversion factors. The trader will profit when the underlying asset depreciates, diminishing the premium on the convertible security.

Also known as a "reverse hedge."

BREAKING DOWN 'Chinese Hedge'

The Chinese hedge is a type of convertible arbitrage. A convertible security, such as a bond with an option to convert into shares, sells at a premium to reflect the cost of the option. The trader hopes that the underlying asset will drop in value, making the short position on the convertible profitable. By hedging his short position through longing the underlying, the investor is protected by large appreciations.

This is the opposite of executing a "set-up hedge."

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RELATED FAQS
  1. What is a Chinese hedge?

    A Chinese Hedge is a form of arbitrage by which an investor shorts a convertible bond and buys the underlying common stock. ... Read Answer >>
  2. What is a 'busted' convertible bond?

    Learn about busted convertible bonds; these are hybrid securities with conversion prices significantly higher than the market ... Read Answer >>
  3. Why do some investors prefer convertible over “straight” bonds?

  4. What is a convertible bond?

    A convertible bond is a bond issued by a corporation that, unlike a regular bond, gives the bondholder the option to trade ... Read Answer >>
  5. What happens if you don't hedge your investments?

    Learn the purpose, advantages and disadvantages of hedging, and find out how to utilize hedging to enhance an overall investment ... Read Answer >>
  6. How is convertible bond valuation different than traditional bond valuation?

    Read about bond valuation, particularly the differences between how a traditional bond is valued and how a convertible bond ... Read Answer >>
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