Convertible Hedge

AAA

DEFINITION of 'Convertible Hedge'

A trading strategy that consists of a long position in a company's convertible bond or debenture, and a simultaneous short position in the underlying common shares. The convertible hedge strategy is designed to be market neutral, while generating a higher yield than would be obtained by merely holding the convertible bond or debenture alone. A key requirement of this strategy is that the number of shares sold short should equal the number of shares that would be acquired by converting the bond or debenture.

INVESTOPEDIA EXPLAINS 'Convertible Hedge'

The rationale for the convertible hedge strategy is as follows: if the stock trades flat or if little has changed, the investor receives interest from the convertible security plus interest from the short sale proceeds (less any costs to borrow the shorted shares and margin requirements). If the stock trades lower, the short stock position will be profitable, offsetting any decline in the price of the convertible bond or debenture. Conversely, if the stock appreciates, the loss on the short position would be offset by the gain in the convertible security.

RELATED TERMS
  1. Convertible Bond

    A bond that can be converted into a predetermined amount of the ...
  2. Market Neutral

    A strategy undertaken by an investor or an investment manager ...
  3. Short (or Short Position)

    1. The sale of a borrowed security, commodity or currency with ...
  4. Busted Convertible Security

    A convertible security that is trading well below its conversion ...
  5. Conversion Price

    The price per share at which a convertible security, such as ...
  6. Tactical Trading

    A style of investing for the relatively short term based on anticipated ...
RELATED FAQS
  1. Why should I consider buying an option if it's out-of-the-money?

    One situation when a trader may want to buy an out-of-the-money option is to hedge a stock position. A trader may want to ... Read Full Answer >>
  2. How do traders use out-of-the-money options to hedge?

    Traders can utilize out-of-the-money options to hedge an existing market position by either buying or selling options. A ... Read Full Answer >>
  3. How does implied volatility impact the pricing of options?

    Implied volatility is an important aspect of the time value premium of an option. As implied volatility increases, call and ... Read Full Answer >>
  4. Which federal regulatory agencies approved and are now responsible for enforcing ...

    Five federal regulatory agencies approved and are jointly responsible for enforcing the Volcker rule. These agencies include ... Read Full Answer >>
  5. Does the Volcker Rule prevent commercial banks from offering shares of hedge funds ...

    The Volcker Rule does not prevent commercial banks from offering trading services in hedge or private equity funds to their ... Read Full Answer >>
  6. What is the purpose of the Volcker Rule?

    The Volcker rule limits two main types of activities by large institutional banks. Banks are prohibited from engaging in ... Read Full Answer >>
Related Articles
  1. Bonds & Fixed Income

    Are High-Yield Bonds Too Risky?

    Despite their reputation, the debt securities known as "junk bonds" may actually reduce risk in your portfolio.
  2. Bonds & Fixed Income

    Leverage Your Returns With A Convertible Hedge

    Find out how you can maintain your income stream by using this type of bond strategy.
  3. Bonds & Fixed Income

    Convertible Bonds: Pros And Cons For Companies And Investors

    Find out why businesses choose this type of financing and what effect this has on investors.
  4. Bonds & Fixed Income

    Convertible Bonds: An Introduction

    Find out about the nuts and bolts, pros and cons of investing in bonds.
  5. Options & Futures

    The Mandatory Convertible: A "Must Have" For Your Portfolio?

    Mandatory convertibles are a little understood security with some distinct advantages. Find out if they are right for you.
  6. Investing

    Prospering In The Next Bear Market: Here's How

    Prepare to survive, and even prosper, in the impending bear market, by considering and putting into action the following four strategies.
  7. Credit & Loans

    What is a Syndicated Loan?

    A syndicated loan is one that involves a group of lenders (called the syndicate) who pool their lending resources to make a loan.
  8. Investing Basics

    Explaining the Volcker Rule

    The Volcker Rule prevents commercial banks from engaging in high-risk, speculative trading for their own accounts.
  9. Investing

    Impact Investing: How it Works and How to Invest

    Impact investing makes a positive impact, socially and/or environmentally, while also aiming to produce positive returns, and it's a growing trend.
  10. Fundamental Analysis

    What is a Forward Rate?

    Forward rate is used in both bond and currency trading to represent the current expectations of future bond interest rates or currency exchange rates.

You May Also Like

Hot Definitions
  1. Multicurrency Note Facility

    A credit facility that finances short- to medium-term Euro notes. Multicurrency note facilities are denominated in many currencies. ...
  2. National Currency

    The currency or legal tender issued by a nation's central bank or monetary authority. The national currency of a nation is ...
  3. Treasury Yield

    The return on investment, expressed as a percentage, on the debt obligations of the U.S. government. Treasuries are considered ...
  4. Bund

    A bond issued by Germany's federal government, or the German word for "bond." Bunds are the German equivalent of U.S. Treasury ...
  5. European Central Bank - ECB

    The central bank responsible for the monetary system of the European Union (EU) and the euro currency. The bank was formed ...
  6. Quantitative Easing

    An unconventional monetary policy in which a central bank purchases private sector financial assets in order to lower interest ...
Trading Center
×

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!