The Convertible Arbitrage Strategy Analyzed
AbstractThis paper analyzes convertible bond arbitrage on the Canadian market for the period 1998 to 2004.Convertible bond arbitrage is the combination of a long position in convertible bonds and a short position in the underlying stocks. Convertible arbitrage has been one of the most successful strategies of hedge funds.This paper shows that the convertible arbitrage strategy has considerable effects on capital markets.First, there is a downward pressure on cumulative average abnormal returns of the underlying stocks between the announcement and the issuance dates of convertible bonds.Second, short sales of the underlying equity around the issuance dates strongly increase for equity-like convertibles. Third, convertible bonds are underpriced at the issuance dates.All effects are stronger for equity-like than for debt-like convertible bonds.Finally, we find that over a one-year period following the issue, equity-like convertibles earn a return that is more than 23 percentage points higher than the return of debt-like convertibles.In the last years of our sample, convertible arbitrage returns have strongly decreased.This seems to be related to a shift from equity-like to debt-like convertibles by the issuing companies.
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Bibliographic InfoPaper provided by Tilburg University, Center for Economic Research in its series Discussion Paper with number 2006-98.
Date of creation: 2006
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Web page: http://center.uvt.nl
convertible arbitrage; short sales; underpricing; convertible bonds; abnormal returns;
Find related papers by JEL classification:
- G12 - Financial Economics - - General Financial Markets - - - Asset Pricing
- G14 - Financial Economics - - General Financial Markets - - - Information and Market Efficiency; Event Studies
- G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
- G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Financial Risk and Risk Management; Capital and Ownership Structure; Value of Firms; Goodwill
This paper has been announced in the following NEP Reports:
- NEP-ALL-2006-10-28 (All new papers)
- NEP-CFN-2006-10-28 (Corporate Finance)
- NEP-FIN-2006-10-28 (Finance)
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