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Alternative Market Briefing

Are convertible bonds an all-weather asset?

Friday, February 24, 2017

Matthias Knab, Opalesque:

Schroders writes on Harvest Exchange:

Does equity protection mean bond risk?

For investors in convertible bonds, the protection offered during weaker equity markets is often the most enticing feature. But how good is the asset class at protecting against fixed income risk?

Traditionally, the two key risk measures for fixed income assets are duration and credit risk. Duration reflects the sensitivity of a bond to changes in interest rates. Higher interest rates are generally bad for bonds, and duration is generally higher in government bonds and investment grade corporate bonds. Credit risk reflects the stability of a bond issuer and, by extension, its ability to repay the bond capital and make coupon payments. Credit risk is generally more relevant for high yield corporate bonds.

Unusually, the current market backdrop means that both risks are currently a concern for bond investors.

Double trouble

The step-change in inflation expectations and the rise in the US headline interest rate at the end of last year caught many bond investors wrong-footed. Even so, the Federal Reserve (Fed) has been vocal about further hikes. When it does raise rates again, we expect interest rates in Europe to climb too.

Ordinarily interest rates rise when economic growth is solid. While this is broadly true j......................

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