Posted by: Lauren Young on August 11, 2009
Bill Feingold, co-founder of Hillside Advisors, Minyanville blogger, and author of The Undoing of Cowardice, says Ford’s convertible bonds are a great buy.
“For longer-term holders, the convertible lets you collect most of the stock’s upside while giving you a tremendous amount of downside protection,” Feingold says. Convertible bonds are corporate bonds that can be exchanged, at the option of the holder, for a specific number of shares of a company’s preferred or common stock.
The convertibles market collapsed last September after Lehman Brothers filed for bankruptcy protection. That forced over-leveraged hedge funds that had taken long bets on convertible bonds, offset by short bets on the corresponding stocks, to sell their convertibles holdings. As a result, value-minded investors have pounced.
Feingold offers up three scenarios for Ford’s convertible bondholders when the company’s bonds effectively mature in 2016.
# 1: The stock is flat.
“The bonds are now around $108 with the stock around $7.75,” Feingold says. “Assume the company does not pay any stock dividends during that time, and that’s a pretty good assumption because of the debt load. Bondholders will incur a $8 capital loss while the stock is flat. But bondholders will collect a $4.25 annual coupon for more than seven years, totaling about $30 over the period. So they’ll end up with $22.50 more than initially (a gain of over 20% vs. zero on the stock), and they’ll be collecting the income throughout the period, so it’s even better than it sounds.”
# 2: The stock doubles.
“I’m glossing over a couple of details, but essentially the bonds will go to their conversion value of $168, and holders will have collected the $30 in income.” Feingold says. “The total is $198 for a gain of well over 80%, versus a 100% gain in the stock.”
Advantage: Stock (but the bonds aren’t far behind).
# 3: The stock is cut in half.
“Bondholders get the exact result as in scenario one, a gain of over 20% over the period,” he says. “Meanwhile, stockholders are down 50%. Huge advantage to the bonds. This is the downside protection convertibles give long-term holders.”
For investors looking to research bonds, Feingold recommends FINRA’s website.