JQP - Right on both counts, but convertibles are subordinated debt, and add to the debt load. Hedge funds are the big customers - they buy the convert with borrowed money, then short the common. They win etiher way, and in the meantime, collect the interest rate spread the convertible pays over their borrowing costs.
The "Free Call" provided by the conversion option suppports a lot of shorting. If the convertible is too large, and the company can't produce strong growth & market intereset, the shorting puts a lid or cap on the stock, and can be bad for stock holders. It can also inhibit acquisitions. Jim Cramer had a column a few months ago on why converts could be bad. THis wasn't death-spiral converts, which are really toxic.
Some of the hedge funds are now in trouble because the value of the bonds has dropped, but in some cases the stock value has held up (probaly because of a short squeeze). Also, it seems some hedge funds didn't do the hedge right (didn't short enough stock) , so they ended up with a directional play as value of both the common & the bond drops toward zero. |
