20 Investments: Convertible Security
AAA
  1. 20 Investments: Introduction
  2. 20 Investments: American Depository Receipt (ADR)
  3. 20 Investments: Annuity
  4. 20 Investments: Closed-End Investment Fund
  5. 20 Investments: Collectibles
  6. 20 Investments: Common Stock
  7. 20 Investments: Convertible Security
  8. 20 Investments: Corporate Bond
  9. 20 Investments: Futures Contract
  10. 20 Investments: Life Insurance
  11. 20 Investments: The Money Market
  12. 20 Investments: Mortgage-Backed Securities
  13. 20 Investments: Municipal Bonds
  14. 20 Investments: Mutual Funds
  15. 20 Investments: Options (Stocks)
  16. 20 Investments: Preferred Stock
  17. 20 Investments: Real Estate & Property
  18. 20 Investments: Real Estate Investment Trusts (REITs)
  19. 20 Investments: Treasuries
  20. 20 Investments: Unit Investment Trusts (UITs)
  21. 20 Investments: Zero-Coupon Securities
  22. 20 Investments: Conclusion

20 Investments: Convertible Security

What Is It?
A convertible, sometimes called a CV, is either a convertible bond or a preferred stock convertible. A convertible bond is a bond that can be converted into the company's common stock. You can exercise the convertible bond and exchange the bond into a predetermined amount of shares in the company. The conversion ratio can vary from bond to bond. You can find the terms of the convertible, such as the exact number of shares or the method of determining how many shares the bond is converted into, in the indenture. For example, a conversion ratio of 40:1 means that every bond (with a $1,000 par value) you hold can be exchanged for 40 shares of stock. Occasionally, the indenture might have a provision that states the conversion ratio will change through the years, but this is rare.

Convertibles typically offer a lower yield than regular bonds because there is the option to convert the shares into stock and collect the capital gain. However, should the company go bankrupt, convertibles are ranked the same as regular bonds, so you have a better chance of getting some of your money back than those people holding common stock. (To learn more, see Convertible Bonds: An Introduction.)

Objectives and Risks
Convertibles are an excellent choice for investors looking for capital appreciation, while still protecting their original investment in a bond. While CVs do provide some income, it's not very high. Investors give up higher returns on the bond in exchange for the option to convert into shares at a later date.

One risk associated with convertibles is that most are callable. In other words, the company can force convertible bondholders to convert the bonds to common stock by calling the bonds. This is called "forced conversion". When investing in convertibles, remember that the CV is only as good as the underlying stock, and if the CV is offering a high premium, be very wary.

How to Buy or Sell It

The most common method for buying stocks is to use a brokerage, either full service or discount. The minimum investment for a convertible is typically $1,000 - the price of one bond. Convertible preferred stock trades on the stock market like regular shares, so the prices usually range from $5 to around $100.



Strengths
  • Your original investment cannot go lower than the market value of the bond; it doesn\'t matter what the stock price does until you convert into stock.
  • Convertibles can be purchased through tax-deferred retirement accounts.
  • CVs gain popularity in times of uncertainty, when interest rates are high and stock prices are low. This is the best time to buy a convertible.

  • Weaknesses
  • The return on the bond or preferred stock is usually quite low.
  • "Forced conversion" means the company can make you convert your bond into stock at virtually any time. Pay very close attention to the price at which the bonds are callable.
  • Three Main Uses
  • Capital Appreciation
  • Safe Investment
  • Tax-Deferred Investment
  • 20 Investments: Corporate Bond

    1. 20 Investments: Introduction
    2. 20 Investments: American Depository Receipt (ADR)
    3. 20 Investments: Annuity
    4. 20 Investments: Closed-End Investment Fund
    5. 20 Investments: Collectibles
    6. 20 Investments: Common Stock
    7. 20 Investments: Convertible Security
    8. 20 Investments: Corporate Bond
    9. 20 Investments: Futures Contract
    10. 20 Investments: Life Insurance
    11. 20 Investments: The Money Market
    12. 20 Investments: Mortgage-Backed Securities
    13. 20 Investments: Municipal Bonds
    14. 20 Investments: Mutual Funds
    15. 20 Investments: Options (Stocks)
    16. 20 Investments: Preferred Stock
    17. 20 Investments: Real Estate & Property
    18. 20 Investments: Real Estate Investment Trusts (REITs)
    19. 20 Investments: Treasuries
    20. 20 Investments: Unit Investment Trusts (UITs)
    21. 20 Investments: Zero-Coupon Securities
    22. 20 Investments: Conclusion
    RELATED TERMS
    1. Agency Swap Program

      A form of securitization whereby single-family residential mortgages ...
    2. Accelerated Return Note (ARN)

      A short- to medium-term debt instrument that offers a potentially ...
    3. Coupon Rate

      The yield paid by a fixed income security. A fixed income security's ...
    4. Coupon

      The interest rate stated on a bond when it's issued. The coupon ...
    5. Exchange Traded Derivative

      A financial instrument whose value is based on the value of another ...
    6. Contingent Annuitant

      Someone designated by an annuitant to receive the annuitant’s ...
    1. How can I create a yield curve in Excel?

      Find out more about the yield curve, what the yield curve is and how to create the yield curve for U.S. Treasury bonds using ...
    2. What are the different formations of yield curves?

      Find out more about the yield curve and yield curve formations, what yield curves measure and the three main types of yield ...
    3. Why would a company issue a rights offering?

      Understand more about a rights offering, and learn the most common reasons a company might have to issue a rights offering, ...
    4. What is the difference between share purchase rights and options?

      Discover the difference between share purchase rights and options, which are essential to understand when deciding to invest ...

    You May Also Like

    Related Tutorials
    1. Bonds & Fixed Income

      Investing For Safety and Income Tutorial

    2. Economics

      American Depositary Receipt Basics

    3. Bonds & Fixed Income

      Certificates Of Deposit

    4. Options & Futures

      Binary Options Tutorial

    5. Mutual Funds & ETFs

      Top ETFs And What They Track: A Tutorial

    Trading Center