Convertible Securities: A Complete Guide to Investment and Corporate Finance Strategies. 2022. Tracy V Maitland, F Barry Nelson, CFA, and Daniel G Partlow. McGraw Hill.
Professionals considering investing in, hedging or issuing investment grade or speculative grade convertible bonds or Preferred Customers in the public or private market in North America, Europe or Asia will find almost everything they need to know Convertible Securities: A Complete Guide to Investment and Corporate Finance Strategies. References to topics such as the use of convertible bonds to diversify a portfolio or to optimize a capital structure are meticulously substantiated with empirical data and supplemented with case studies. If readers would like more detail on a specific topic than even the book’s 560 pages could contain, they can look to Advent Capital Management’s website for handy references to material where Tracy V Maitland, F Barry Nelson, CFAand Daniel G Partlow apply their expertise in the management of convertible bonds. In addition, the book describes the evolution of the asset class from its origins in the 19th century to the impact of the Tax Cuts and Jobs Act 2017 on investments and recent changes in accounting standards for convertible bond issuers.
The authors address a wide audience. The lay investor can apply the basic financial theory presented as a background to activities well outside the confines of the convertible bond market. At the same time, the book presents quantitatively sophisticated evaluation methods and trading strategies and refers to technical terms that will be new to many experienced practitioners – for example “ASCOTs”, “Zomma”, “Nuking” and “Happy Meal”. “
It is the reader’s responsibility to pay attention to the authors’ well-considered wording throughout. Advent founder Tracy Maitland, recalling his introduction to financial markets in the 1980s, mentions in his foreword “long-term returns on convertible bonds that matched returns on common stocks, but with significantly less risk”. The authors update the story in the main text, noting that “convertibles have historically made a comeback about as much as common stock over the long term.” To avoid exaggeration, they write elsewhere: “Convertible bonds typical offer less volatility than stocks.” Equally cautious is this comment: “The all-time high of moving indices essentially has matched the returns of stock indices for decades can partially reflect the superior growth of convertible bond issuers relative to the growth of companies in the equity indices” (italics added to previous sentences). A clear message is the asymmetric behavior of convertible bonds, capturing much of the upside potential of their associated equities while cushioning the downside over the sticky side of their nature.
Among many useful observations touching on the main subject, two require comment. First, the authors note that “longer-term securities tend to have wider credit spreads than shorter-term securities because risk increases over time.” ICE Indices, LLC records confirm that with the exception of December 2007 through March 2009, the option-adjusted spread (OAS) on 10-15 year US investment grade corporate bonds consistently exceeded the OAS on 3-5 year has exceeded spending. However, for high yield bonds, the 3-5 year OAS has typically outperformed the 10-15 year OAS.
Second, the authors note that “companies that can print money are considered completely risk-free because, under all circumstances, they can repay their debt with a currency that they can create on their own.” In fact, control of a currency is a necessary but not a sufficient condition to avoid incurring credit risk. History records a number of sovereign defaults on domestic currency debt, such as Russia’s 1998 default on its ruble debt AA+ and not the highest agency rating (AAA).
Busted (out-of-the-money) convertibles are another time-honored theme in fixed income circles. Some bond sellers have promoted the belief that once these issues are no longer attractive to convertible investors, they are invariably neglected and consequently become bargains with yields in excess of comparable straight (non-convertible) bond yields. Maitland, Nelson, and Partlow are careful to note that discounted convertible bonds are merely “have the potential to do so perform significantly better than non-convertible bonds” (italics added).
As with most books, there are a few little things included Convertible Securities carry clean up in a future issue. The book refers to the ICE BofA US High Yield Corporate Index by its former name, the High Yield Master II Index. Other editorial gaffes include mentions of the BlackRock “Alladin” fund, the “Capital Assets Pricing Model” and the “Discounted Dividend Model”.
These stylistic tricks do not detract from the many pleasures that readers have come to expect from Convertible Securities. One does not expect to find in a fat tome on finance the Latin precursor to the Shakespearean proverb, “To me it is Greek.” Similarly coincidental is a Talmudic commentary on the symbolism of the Hebrew equivalents of the Greek letters gamma and delta. Most importantly, however, are the original research papers that enrich coverage of every aspect of the convertible ecosystem. York Capital Management CEO Jamie Dinan is right to call Convertible Securities a “remarkably comprehensive book”.
Full Disclosure: The reviewer is credited in the acknowledgments accompanying this book and in an endnote.
Disclaimer: Please note that the content of this website should not be construed as investment advice and the opinions expressed do not necessarily reflect the views of the CFA Institute.
Editor’s note: The summary bullet points for this article were selected by Seeking Alpha editors.