In early January, a well-known, large US-based asset management firm decided to close its convertible securities fund, citing the fund’s inability to “gain broad acceptance” among some investors and, as part of a review of its products and offerings, “eliminating funds that lack a distinct role.” Following this announcement, the Invesco Convertible Securities Team has fielded several questions about our view of convertible securities. We continue to believe that convertible market remains healthy and that converts may offer investors a way to participate in the upside of the issuer’s stock while providing the potential downside risk mitigation of a fixed income instrument through regular coupons, a stated par value and maturity date.
A convertible security is a corporate bond that has the ability to be converted into a fixed number of shares of common stock. We see the convertible market as healthy when viewed by several measures:
- US convertibles outperformed a variety of asset classes in 2018, with the ICE BofA Merrill Lynch All US Convertibles Index up 0.2%, compared to a -4.4% return for the S&P 500 Index, -11.0% for the Russell 2000 Index, -2.0% for the Bloomberg Barclays US Corporate High Yield Index and -3.7% for investment grade debt (measured by the Bloomberg Barclays USD Liquid Investment Grade Corporate Total Return Index).1
- Issuance in the US was strong last year, topping $50 billion in proceeds for the first time in a decade.2That total far exceeded the proceeds raised in 2017 ($37 billion) or 2016 ($36 billion) as rising equity prices and the prospect of higher interest rates pushed companies to raise capital through convertibles, which typically have lower coupons than non-convertible debt from the same issuer.2
- Flows into the asset class were positive. According to fund flow data from EPFR, cumulative funds into US convertibles outright accounts topped $1 billion in 2018, despite significant volatility in the capital markets during the fourth quarter.
- Buy/sell activity picked up. Liquidity, as measured by turnover, or the amount of securities traded as a percentage of the amount outstanding, improved in 2018 to 265%, from 232% in 2017.3 Particularly when compared to liquidity in the high yield market (157% in 2018), convert market trading activity has been healthy according to the data from Barclays.
Looking ahead though 2019, the convert market seems well-positioned, in our view.