Convertible Bonds Research Articles

The Impact of Financial Constraints on the Convertible Bond Announcement Returns

As of now, very few research studies have examined the effects of financial constraints on the short- and long-term performances of companies after their announcement of convertible bonds. Due to asymmetric information, previous studies consider issuance of convertible bonds as negative news. As a result, the short- and long-term performances of companies generally decline after their convertible bond announcement. This study argues that when companies have investment plans, they are expected to have higher future cash flows. They will become increasingly more valuable regardless of the fact that they raise funds through the issue of convertible bonds (due to financial constraints), positively affecting the performance of companies. The results indicate that financial constraints have no effect on short-term performance, but did have a significantly positive impact on the long-term performance of companies after their issuance of convertible bonds.

How can we improve inferences from surveys? A new look at the convertible debt questions from the Graham and Harvey survey data

We revisit the survey questions on convertible bond issue motives from the influential study of Graham and Harvey (2001). Our question-conditional analysis connecting survey answers with firm characteristics reveals that the conclusions on two of the four convertible debt theories from the original study need to be revised. More particularly, the delayed equity rationale and the sequential financing rationale on convertible bond issuance do not receive support from the question-conditional tests. Our results indicate that adding a question-conditional analysis is essential in obtaining correct inferences from survey data.

Brokers versus Retail Investors: Conflicting Interests and Dominated Products

ABSTRACTI study how brokers distort household investment decisions. Using a novel convertible bond data set, I find that consumers often purchase dominated bonds—cheap and expensive otherwise‐identical bonds coexist in the market. Brokers are incentivized to sell the dominated bonds, typically earning two times greater fees for selling them. I develop and estimate a broker‐intermediated search model that rationalizes this behavior. The estimates indicate that costly search is a key friction in financial markets, but the effects of search costs are compounded when brokers are incentivized to direct the search of consumers toward high‐fee inferior products.

The Determinants of CoCo Bond Prices

This study aims to empirically test how contingent convertible (CoCo) bond prices are affected by the main theoretical determinants and design features. The theoretical framework used in this article is the Equity Derivatives Model suggested by De Spiegeleer and Schoutens (2012). The authors test for the relationship between CoCo prices and key variables suggested by this model. They find that the main determinants are mostly significant and that the explanatory power of the model is high with an R-squared of 86%. The power of the model is not affected by the loss absorption mechanism (conversion to equity or principal write-down). They also identify a number of additional explanatory variables of importance.

The Valuation and Optimal Policies of Puttable Convertible Bonds

American-style convertible bonds commonly contain the put provision that allows the investors to put or sell their holdings to the issuer at preset prices and dates. The embedded put option includes a free boundary in addition to the conversion boundary. Because of the correlation of two moving boundaries with the convertible price, the valuation of puttable convertible bonds remains a classical problem in quantitative finance. This paper presents the valuation model of puttable convertible bonds under the Black-Scholes framework. We distinguish between the conventional pricing model and the current work by the realization of a jump in the put price across the hitting time. The jump condition permits the derivation of two recombining differential systems and we explore the impact of jump effect on the pricing dynamic of this innovative financial derivative.

Shareholder Risk-Taking Incentives in the Presence of Contingent Capital

This paper presents a model of shareholders’ willingness to exert effort to reduce the likelihood of bank distress, and the implications of the presence of contingent convertible (CoCo) bonds in the liabilities structure of a bank. Consistent with the existing literature, we show that the direction of the wealth transfer at the conversion of CoCo bonds determines their impact on shareholder risk-taking incentives. We also find that ‘anytime’ CoCos (CoCo bonds trigger-able anytime at the discretion of managers) have a minor advantage over regulator CoCo bonds, and that quality of capital requirements can reduce the risk-taking incentives of shareholders. We argue that shareholders can also use manager-specific CoCo bonds to reduce the riskiness of the bank activities. The issuance of such bonds can increase the resilience of individual banks and the whole banking system. Regulators can use restrictions on conversion rates and/or requirements on the quality of capital to address the impact of CoCo bonds issuance on risk-taking incentives.

Pricing contingent convertible bonds: An analytical approach based on two-dimensional stochastic processes

In this paper, we study fast pricing methods for contingent convertible bonds (CoCos). Based on two-dimensional stochastic processes, we propose two pricing models for CoCos; a dynamic capital-ratio model and a dynamic debt–equity model. Under these frameworks, we derive analytic-form formulae for CoCos with fixed and floored conversion prices. Many practical implications for analyzing CoCos are observed through numerical tests by choosing the plausible model parameters obtained from empirical results.

A Simple and Precise Method for Pricing Convertible Bond with Credit Risk

This paper presents a new model for valuing hybrid defaultable financial instruments, such as, convertible bonds. In contrast to previous studies, the model relies on the probability distribution of a default jump rather than the default jump itself, as the default jump is usually inaccessible. As such, the model can back out the market prices of convertible bonds. A prevailing belief in the market is that convertible arbitrage is mainly due to convertible underpricing. Empirically, however, we do not find evidence supporting the underpricing hypothesis. Instead, we find that convertibles have relatively large positive gammas. As a typical convertible arbitrage strategy employs delta-neutral hedging, a large positive gamma can make the portfolio highly profitable, especially for a large movement in the underlying stock price.

Экспортно ориентированный финансовый центр на российском Дальнем Востоке: абстракция или реальность?

Export of financial services, as shown in numerous researches, not only shows considerable rates of universal growth, but also successfully combines low risk and high profitability. The Russian Far East can become the large exporter of financial services to Asia-Pacific countries, if it offers the macro-regional market the instruments of securitization of investments, which are absent at the exchanges of the developed countries due to their tougher exchange legislation. This article is based on economic research, in which macroeconomic advantages of development of the sector of financial services are proved – the states with the modern financial sector and, first of all, with the developed stock market, provide national industries with investment resources better compared to the economies, where the banking sector remains the largest source of investments. Considering that, development of export in itself and creation of foreign branches, according to the research quoted in the article, promote increase in probability of successful development of the company, it is possible to assume that export of financial services, which combines both advantages described above, is capable of generating high microeconomic and macroeconomic efficiency. The article contains the review of those financial products on the basis of which the export-oriented financial market of the Russian Far East could have been based in the past, first of all of currency futures and options, and consequences of the fact that the chance of development of this segment of the market was ignored. Based on the analysis of the missed opportunities, the complex of financial products and financial services for nonresidents, which can become the basis of future export-oriented financial market, was introduced. Among major products are: combinations of bonds and instruments of control of currency risk, index notes, the IPO / SPO market for the companies of small capitalization, multiple currency investment tools, with inclusion of highly profitable Russian bonds and also the special individualized tools, such as convertible bonds with protection against currency risk which will allow the investor to spread risk of investments between several Asian economies and several industries at the same time

The Default Contagion of Contingent Convertible Bonds in Financial Network

This paper investigates the impact of Contingent Convertible (CoCo) bonds on systemic risk using Eisenberg-Noe’s financial network method, where the network is linked by debt relationship. The default contagion and loss amplification due to network linkage measure the systemic risk, from which we can ascertain the potential impact of CoCo bonds on systemic risk. Results show that CoCo bonds enhance the spillover effect of issuer’s default; in the meanwhile, sufficient CoCo bonds partly offset the impact of default contagion from other institutions. In addition, CoCo bonds enhance the amplification effect of loss due to network linkage, but the amplification effect diminishes after considering the bankruptcy cost. Finally, the numerical test is given to provide some insight into how the issuance of write-down (WD) bonds have influences on commercial banks in China.

Mind the Conversion Risk: A Theoretical Assessment of Contingent Convertible Bonds

We develop a theoretical model to assess the merits of principal-write down contingent convertible (CoCo) bonds. The conversion risk is the key feature of CoCo bonds. Because of this conversion risk, CoCo bonds are hard to price and an equilibrium price does not necessarily exist. In our model, for such a price to exist, the bank needs to hold a minimum amount of equity and/or the expected return associated with its asset portfolio needs to be large enough. When an equilibrium price exists, it is a decreasing function in the amount of equity held by the bank. Well-capitalized banks can thus issue CoCo bonds at a lower price than least-capitalized banks. This is the reason why CoCo bonds are to be thought of more as a complement to equity than as a substitute. In addition, because of the conversion risk, self-fulfilling panics may occur in the CoCo bonds' market. We indeed define a game between CoCo bonds' holders and the Central Bank that allows us to exhibit situations where a panic occurs in the CoCo bonds' market. Using the global game technique, we show that the probability of crisis can be expressed as a function of the return associated with the asset portfolio of the bank. The probability of crisis is shown to be sensitive to the precision of the information available to CoCo bonds' holders. Taken together, our results call for cautiousness when assessing the relevance of regulatory requirements in CoCo bonds, especially concerning their systemic impact.

Why Should We Invest in CoCos Than Stocks? An Optimal Growth Portfolio Approach

We investigate an optimal growth portfolio problem with contingent convertible bonds (CoCos). As the conversion risk in CoCos is closely associated with the issuer's capital structure and the stock price at conversion, we model both equity and credit risk to frame this optimisation problem. This study aims to answer two questions that (i) how investors should optimally allocate their financial wealth between a CoCo and a risk-free bond; and (ii) which approach -- investing in a CoCo or in a stock issued by the same bank -- could result in higher expected returns. First, we derive the dynamic of a coupon-paying CoCo price under a reduced-form approach. We then decompose the problem into pre- and post-conversion regimes to obtain closed-form optimal strategies. A comparative simulation leads us to conclude that, under various market conditions, investing in a CoCo with a risk-free bond provides a higher expected growth than investing in stock.

金融控股公司宣告发行可转换公司债对股票报酬影响与因素分析——以台湾地区为例

金融控股公司宣告发行可转换公司债对股票报酬影响与因素分析——以台湾地区为例

规避可转债回售风险——修正转股价格还是宣告股份回购

规避可转债回售风险——修正转股价格还是宣告股份回购

Effect of Readability and Complexity on Naive Investors Decisions: An Experimental Study in an Emerging Economy

Purpose of this paper: The purpose of this paper is to investigate the impact of the readability and complexity levels of financial disclosures on naive investors’ willingness to invest and their stock valuation judgements. Design/methodology/approach: Two experiments were conducted during the study. The first experiment is a between subject experimental design and is conducted to investigate the impact of different readability levels (less readable Vs more readable) on naive investors’ investment The second experiment is a within subject experimental design and is conducted to test the impact of different complexity levels (more complex Vs less complex) on naive investors’ Non-parametric statistical tests were used to test the research hypotheses. Findings: The impact of readability level on investors’ comfort and willingness to invest was clear and significant in the case of more complex negative information (options case) as investors’ willingness to invest was lower in case of more readable negative information on options, but that was not the result in case of the less complex negative information (convertible bonds case). Readability levels affected investors’ stock valuation whether the information presented is less complex or more complex. Investors’ stock valuation was lower in case of less readable information than that in the case of more readable information. As for the impact of complexity, the results didn’t show significant impact of the complexity levels on the investors’ willingness to invest and their stock valuation. Research limitations/implications: This paper uses undergraduate students registered in the English section in the faculty of commerce of Alexandria University as a proxy for naive investors. Those students passed three courses of accounting and have basic knowledge in financial disclosures. Real investors were difficult to recruit as subjects for the experiment conducted. Social and Practical implications: The results of the study imply that different readability levels can have a significant impact on investors’ willingness to invest in case the information presented is more complex and their stock valuation, whether the information presented is less complex or more complex. What is original/value of paper? This paper is the first to examine the impact of readability and complexity separately. The paper contributes to the existing literature examining the readability and complexity of financial disclosures on investors’ decisions and judgements.

국내 조건부자본증권의 현황과 쟁점 고찰

국내 조건부자본증권의 현황과 쟁점 고찰

영구전환사채의 발행과 차액정산계약의 형법적 한계

영구전환사채의 발행과 차액정산계약의 형법적 한계

Nuclear Cocos

Financial buffers for climate and environmental risks are discussed. We argue for the consideration of contingent capital instruments or Contingent Convertible bonds (CoCo bonds) for industries where severe tail risk is present and where in case of a tail event the local society is heavily affected and most likely tax payer’s money is needed to compensate for losses and start the recovery. These instruments would mainly: (1) provide clear incentives to reduce the risks and bring transparency, (2) makes sure that collateral and funds are available in case of a major disaster to compensate losses and make investments for recovery possible; and (3) provide a mechanisms for investors to gain above risk-free returns in compensation for clearly upfront specified risks. We elaborate on Nuclear CoCos and Climate CoCos.

Simulation for Callable Convertible Discount Bonds with Monte Carlo Method

Pricing of Callable Convertible Discount Bonds is based on non-redemption constraints under a discrete framework. The Monte Carlo method is used to conduct a large number of random simulations on the change path of the underlying stock price on the future time T. And then average it and discount it at a risk-free rate. Finally, it can get the price of the callable convertible discount bonds. The value of convertible bonds under different stock prices is analyzed in the form of charts. At the same time, we also consider the effect of different parameter variables on the value of convertible bond. Therefore, we can have a comprehensive understanding of the pricing of the callable convertible discount bonds.

Convertible bond announcement returns, capital expenditures, and investment opportunities: Evidence from Korea

This study examines convertible bond issue announcement effects in Korea from 2000 to 2015. Our empirical results show that convertible bond issues have significantly positive cumulative abnormal returns (CARs) around the announcement. In particular, issuing firms that state capital expenditure as the use of proceeds have significantly higher CARs compared to firms that state other purposes. We find that such firms actually increase their expenses for capital expenditure after offering convertibles, and suggest that the market reacts positively to these issues due to the high expectation of investment in the near future. We also find consistent results using propensity score matching to address potential endogeneity concerns. In addition, we find that CARs are more likely to be positive for smaller firms where asymmetric information occurs more from the new investment opportunities than from the assets-in-place, which is consistent with the generalized Myers-Majluf model. Overall, our empirical results suggest that the key factors of convertible bond announcement effects in Korea are the stated use of proceeds as capital expenditure and the asymmetric information effect from investment opportunities.