Simulating Convertible Bond Arbitrage Portfolios

Abstract

The recent growth in interest in convertible bond arbitrage (CBA) has come predominately from the hedge fund industry. Past empirical evidence has shown that a CBA strategy generates positive monthly abnormal risk adjusted returns. However, these studies have focused on hedge fund returns which exhibit instant history bias, selection bias, survivorship bias and smoothing. This paper replicates the core underlying CBA strategy to generate an equally weighted and market capitalisation daily CBA return series free of these biases, for the period 1990 through to 2002. These daily series also capture important short-run price dynamics that previous studies have ignored.