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Investors Hit the Road in Convertibles

Shifting from one of the worst performing strategies of 2008 to one of the best in 2009, convertible arbitrage is making waves in the hedge fund industry. The difficulties experienced by managers in 2008 left investors wary to even consider this strategy moving into the first quarter. However, it has bounced back significantly since. BHA has heard several investors mention that convertible arbitrage is an area they could invest in by the end of 2009.

Convertible arbitrage funds are appealing to investors for many of the same reasons as volatility arbitrage funds. Convertible arbitrage funds can provide a fair amount of liquidity in comparison with other credit-oriented strategies. Also, a significant number of investors have expressed more confidence in strategies taking a systematic rather than fundamental approach. A wealth advisor in Europe, for example, is currently focusing on evaluating opportunities in liquid and systematic strategies, and it’s including convertible arbitrage. The firm targets annual returns of at least 8 percent for convertible arbitrage funds, and many convertible managers surpassed that in the first two months of this year.

The current environment provides a great opportunity for convertible arbitrage managers to prove that they have the ability to bounce back from difficult markets. When convertible arbitrage managers find investors interested in their strategy, they will need to explain how they were able to minimize losses in 2008 and how they have been able to recover this year. Evaluating managers’ risk management procedures will be a critical part of investors’ due diligence over the next few months.

Convertible arbitrage managers can appeal not only to investors seeking that strategy specifically, but also to investors looking for event-driven or credit-related strategies in general. In addition, multi-strategy managers with exposure to the convertibles market can appeal to investors that want exposure to these assets, although not through a dedicated convertible arbitrage fund. BHA sees opportunities for managers to get in front of qualified investors before allocations take place at year’s end.

Disclosure: No Positions