What Does Premium Adjustable Convertible Security Mean?
A premium Adjustable Convertible Security (PEACS) is a debt instrument that combines a coupon paying bond with the option to convert the bond into common stock at a set price.
A premium Adjustable Convertible Securities (PEACS) are frequently described as hybrid securities because they combine features of debt and equity, converting to ordinary shares at a set date based on a pre-determined ratio. Hybrid securities generally pay a rate of return, which could be fixed or variable, for a certain pre-determined period. However, they also contain characteristics of an equity investment, which means there is an increased element of risk, as well.
Convertible securities typically offer a guaranteed interest payment at a specified rate, along with a par value that is achieved at maturity. Unlike a standard bond, however, a convertible security offers the option for the holder to transform the securities into equities if they choose to do so.
Other types of hybrid securities include pay-in-kind toggle notes, which allow the issuing company to toggle the payment from interest rates to additional debt owing to the investor.
Pros and Cons of Premium Adjustable Convertible Security (PEACS)
If the conversion option is not exercised, a Premium Adjustable Convertible Security (PEACS) would continue to act like a normal coupon paying bond, and would provide the investor with accrued interest earnings through the maturity date. This payout is generally lower than what investors would experience with a standard coupon paying security, because the investor is sacrificing some potential guaranteed payout in exchange for the opportunity to switch to an equity investment structure if they decide to exercise that option.
Convertible securities like a PEACS allow investors to acquire a debt instrument with rights to interest and principal payments without sacrificing the chance to participate in the company's capital appreciation. When a company does well, investors can convert the debenture into stock that has a higher value. When a company is less successful, investors can retain the bond and receive interest and principal payments. Convertible-bond mutual funds can provide a diversified investment in convertibles. These funds are meant to offer most of the upside potential of stocks while limiting downside risk.
Because of the unique structure and intricacies involved with PEACS, and to some extent convertible securities in general, it is important for investors to educate themselves about how these financial instruments work. Less experienced investors should consult the input of a financial advisor before making major investment decisions, including those that involve convertible securities.