With the U.S. 10-Year Treasury yield hovering around 0.60%, it’s no wonder investors are looking for alternative sources of yield. One alternative that has gained in popularity? Convertible bonds.
A convertible bond is a hybrid security that has all of the characteristics of a traditional corporate bond, with the option to exchange it for the company’s common stock. As the underlying stocks of these bonds perform well, convertibles begin to act similarly to the underlying stocks. Whereas when the underlying stocks perform poorly, convertibles begin to act more like bonds.
The sector make-up of the Bloomberg Barclays U.S. Convertibles Liquid Bond Index has a traditional growth tilt, with 40% invested in Software, Internet, and Semiconductor bonds — an overweight that has definitely helped performance this year.
So, if you’re looking for investments that have historically offered higher yields but lower volatility than equities — or for ways to invest in securities where spreads have widened — convertibles may be attractive. With the 10-year rate likely to stay below 1% for the foreseeable future, we expect investors will increasingly gravitate to alternative yield sources like this.
Keep in mind, however, that these investments aren’t for the faint of heart. While less volatile than equities, convertibles can be much more volatile than U.S. Treasuries, and are likely best used in a tactical fashion.