Death Spiral

AAA

DEFINITION of 'Death Spiral'

A type of loan investors give to a company in exchange for convertible debt, which, like convertible bonds, typically has provisions that allow investors to convert the bonds into stock at below-market prices. This can cause the original shareholders to lose control of the company.

INVESTOPEDIA EXPLAINS 'Death Spiral'

This type of loan is undertaken by companies that desperately need cash. It is called a death spiral because companies' stocks often plunge drastically after they take on these types of loans. It is important to note that death spirals often allow buyers to convert the bonds into shares at a fixed conversion ratio in which the buyer has a large premium.

For example, a bond with a face value of $1,000 may have a convertible value of $1,500, which means that a bondholder will receive $1,500 dollars worth of equity for giving up the $1,000 bond.

However, upon a conversion, more shares are created, which dilutes the share price. This drop in price may cause more bond holders to convert, because the lower share price means that they will be receiving more shares. Any further conversions will cause more price drops as the supply of shares increases, causing the process to repeat itself as the stock's price spirals downward.

RELATED TERMS
  1. Convertible Bond

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

    Securities, usually bonds or preferred shares, that can be converted ...
  3. Credit Cliff

    A slang term referring to the compounding of a company's credit ...
  4. Short (or Short Position)

    1. The sale of a borrowed security, commodity or currency with ...
  5. Current Liquidity

    The total amount of cash and unaffiliated holdings compared to ...
  6. Developed To Net Premiums Earned

    The ratio of developed premiums to net premiums earned over a ...
Related Articles
  1. Haunting Wall Street: The Halloween ...
    Options & Futures

    Haunting Wall Street: The Halloween ...

  2. What are 'death spiral' convertible ...
    Investing

    What are 'death spiral' convertible ...

  3. Short Selling Tutorial
    Active Trading Fundamentals

    Short Selling Tutorial

  4. How A Limited Government Affects A Country's ...
    Economics

    How A Limited Government Affects A Country's ...

Hot Definitions
  1. Gross Rate Of Return

    The total rate of return on an investment before the deduction of any fees or expenses. The gross rate of return is quoted ...
  2. Debit Spread

    Two options with different market prices that an investor trades on the same underlying security. The higher priced option ...
  3. Leading Indicator

    A measurable economic factor that changes before the economy starts to follow a particular pattern or trend. Leading indicators ...
  4. Wage-Price Spiral

    A macroeconomic theory to explain the cause-and-effect relationship between rising wages and rising prices, or inflation. ...
  5. Accelerated Depreciation

    Any method of depreciation used for accounting or income tax purposes that allows greater deductions in the earlier years ...
  6. Call Risk

    The risk, faced by a holder of a callable bond, that a bond issuer will take advantage of the callable bond feature and redeem ...
Trading Center