May 31, 2021 12:00 AM

Graphic: The case for convertibles

Convertible securities can capture the upside of markets while protecting on the downside. Over the past year through May 14, the Bloomberg Barclays U.S. Convertible Composite Total Return index posted a 54.6% return. While this was largely driven by robust equity performance, convertibles also held up relatively well during last year's broad-based market sell-off from late February to late March, falling by about 26% compared with a 39% drop for the underlying equities.

Competitive returns: Over the past 10 years, the convertible index produced a 12.3% average annual return, besting the Russell 2000 index by 50 basis points, while the Nasdaq Composite index returned 18.3%.

Returns

Downside protection: During down years, such as 2015, the underlying equities in the index returned -5.6%, but convertibles dropped by only 2%. It was even better in 2018 when the convertible index declined by 2%, but equities lost 7.6%.

Returns vs. underlying equities

Spreads help: Most of convertibles' return has been driven by equity appreciation, but lower bond spreads have also helped. The option-adjusted spread on the Bloomberg Barclays U.S. High Yield index currently sits at about 300 basis points, about 50 basis points narrower than pre-pandemic levels.

High-yield OAS spread (basis points)

Issuance on the rise: With the rising stock market, convertibles issuance has been increasing. Last year, issuance topped $100 billion, an all-time high, more than double the annual totals of the past several years. This year is off to a good start, with more than $48 billion sold.

Total issuance (billions)