Companies always need financing for their projects and investments. For this purpose, some companies, especially big ones, create financial instruments like debentures. Debentures are debt instruments much like bonds and notes. There are two types of this: convertible and non-convertible.
Just from the name you can tell that convertible debentures are more attractive and appealing to investors because of the fact that it is a bond that can be changed to stock options. With this financial instrument, an investor can make profit in two ways: through regular payments of interest, and through the increasing bond prices brought about by an increase in the value of the stock. This option combines the best attributes of both stocks and bonds. On the other hand, non-convertible bonds are not convertible in any way, meaning, an investor cannot exchange the bond for equity shares of the liable company.
Convertible bonds are popular with investors because they offer a lot of advantages. For one, they are directly proportional to share prices. If share prices rise, the bond price would also rise by two-thirds of the increase of the share price. Similarly, if they fall, they would only fall to two-thirds of the decrease. We can say, therefore, that there is a degree of safety with this type of financial instrument. You would still get a sizable profit potential with a slightly decreased loss potential.
Convertible bonds are great for passive investors–investors who would just like to sit and collect income from interest until they reach the rate of bond conversion. In this kind of setup, their capital is preserved and they still receive regular interest income. If the stock price picks up, you can then convert these to ride the explosive growth of the company. You can get capital gains and dividend income when you convert the debenture to equity shares.
If you want to invest in companies in the technology industry, many of them are now offering convertible bonds. In the past, they do not offer debenture, only an equity stake in them. With this type of bond, you can now get the opportunity to profit from their potentially explosive growth. When they are in their rapidly growth stage, you can convert the bonds you have into shares of that company since the shares will be of much higher value. You can then ride the price ascent of the shares and then sell them for a huge profit after.
Investors continue to love convertible debentures because they have a good return on investment and they follow share price movement which can provide you with a much bigger return. Non-convertible debentures do not offer this feature.
The good thing with these types of bonds is that even if the conversion level is not reached, there is still a satisfactory return from the bond. What these offer is the best of both worlds: the safety feature of a bond and the potentially lucrative return of stocks. These are not very volatile, making it a great investment for those who like steady returns.
But like any other investment option, these bonds also come with risks. But as long as you know how to minimize these risks and are able to do the proper research in order to figure out if this investment is for you, you will have no problem.
The critic who wrote this piece has found a well respected investment relations vet by the name of Josh Yudell. Josh Yudell is also the Managing Director of a private equity fund and is credited with the creation and popularization of a funding vehicle known as a PSSO (Private Secondary Shareholder Offering).
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