Convertibles and Hedge Funds as Distributors of Equity Exposure

Brown, Stephen J.; Grundy, Bruce D.; Lewis, Catherine; Verwijmeren, Patrick

doi:10.2139/ssrn.1567260

Cited by 21 publications

(19 citation statements)

References 56 publications

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“…Rule 144A is issued in 1990 to improve the liquidity and efficiency of private placement market by giving more freedom to institutional investors to trade securities. Securities under Rule 144A do not require registration with SEC, but can be traded without restriction in the secondary market among qualified institutional buyers (Brown, Grundy, Lewis, & Verwijmeren, 2012). Livingston and Zhou (2002) suggest that investors in 144A market have lower liquidity, information uncertainty, and weaker legal protection.…”

Section: Methodsmentioning

confidence: 99%

A comparison of the stock market reactions of convertible bond offerings between financial and non-financial institutions: Do they differ?

Liu

Siganos

2016

International Review of Financial Analysis

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a b s t r a c t a r t i c l e i n f o Available online xxxx JEL classification: G21 G14 G18 Keywords: Convertible bond announcement effect Financials RegulationWe focus on the stock price reaction to convertible bond offering made by financial institutions and find that the cumulative abnormal return over the three day interval around convertible bond issuance is 1.41 percentage higher than that for non-financial institutions. This result supports our hypothesis that since financials are heavily regulated, the market is less likely to assume that the issuance of convertible bond by financials signals information that are overvalued. Our results remain robust after controlling for a number of firm-, issue-, and marketspecific characteristics as well as the level of short selling pressure induced by convertible bond arbitrageurs.

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Section: Methodsmentioning

confidence: 99%

A comparison of the stock market reactions of convertible bond offerings between financial and non-financial institutions: Do they differ?

Liu

Siganos

2016

International Review of Financial Analysis

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“…An alternate possible reason for the design change is the increased involvement of hedge funds in the market for convertible bonds since 2000 (Brown et al. ()). Hedge funds combine long positions in convertibles with short positions in the issuer's common stock.…”

Section: What Caused the Change In Security Design?mentioning

confidence: 99%

“…We follow Brown et al. () and obtain hedge fund involvement by downloading convertible registration statements for privately placed convertibles from SEC Edgar. Many registration statements contain the names of the original purchasers of the convertible bonds, and we classify these buyers as hedge funds or non‐hedge funds.…”

Section: What Caused the Change In Security Design?mentioning

confidence: 99%

Disappearing Call Delay and Dividend‐Protected Convertible Bonds

Grundy¹,

Verwijmeren²

2016

The Journal of Finance

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Firms do not historically call their convertible bonds as soon as conversion can be forced.A number of explanations for the delay rely on the size of the dividends that bondholders forgo so long as they do not convert. We investigate an important change in convertible security design, namely, dividend protection of convertible bond issues. Dividend protection means that the conversion value of the convertible bond is unaffected by dividend payments and that dividend-related rationales for call delay become moot. We document that call delay is near zero for dividend-protected convertible bonds. 2 This paper documents the rapid rise of callable convertibles that are dividend-protected, and the ensuing effect on convertible bond call policy. When a convertible is dividendprotected and a dividend is distributed, the number of shares to be received upon conversion increases so as to leave the bond's conversion value unchanged. We find that call delay is near zero for dividend-protected convertible bonds. The link between dividend protection and diminished call delay highlights the importance of dividends for understanding convertible bond call policy.Calling a convertible bond will force conversion provided the conversion value exceeds the call price. Ingersoll (1977a) and Brennan and Schwartz (1977) model settings in which shareholder wealth is maximized by calling to force conversion whenever feasible. Forced conversion deprives convertible bondholders of the combined value of the insurance they have as bondholders able to demand the bond's principal value at maturity (rather than the bond's conversion value at maturity) and any income advantage from the coupons they receive in excess of the dividends received in the event of conversion. Ingersoll (1977b) documents that in practice a substantial number of firms delay calling relative to this policy, reporting that on average firms wait until the conversion value exceeds the call price by 43.9%. Asquith and Mullins (1991) observe that studies on call delay are important since a failure to empirically confirm clear predictions of finance theory calls into question the validity of the models. Not surprisingly, researchers have responded to Ingersoll's analysis by considering alternate theories of convertible bond call policy. Theoretical explanations of call delay can be classified into two groups: explanations that are 3 unrelated to the firm's dividend policy, and explanations that are dependent on the firm's dividend policy.There are two explanations unrelated to dividend policy. One is that the costs of a failed call along with a required call notice period can lead firms to delay calling until a bond's conversion value exceeds its call price by a sufficient safety premium. 1 The other is that call delay can be a credible signal that management believes that the conversion value of the bond will exceed its face value at maturity and hence that there is little to be gained by forcing conversion early since bondholders will convert at maturity (Harris an...

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“…Preferred Brown et al (2010) examine the role of hedge funds in the private placement market for convertible debt. They argue that issuers use hedge funds to reduce issue costs.…”

Section: Debtmentioning

confidence: 99%