Convertible Arbitrage: Insights and Techniques for Successful Hedging(Wiley Finance)

Minimize risk and maximize profits with convertible arbitrage Convertible arbitrage involves purchasing a portfolio of convertible securities-generally convertible bonds-and hedging a portion of the equity risk by selling short the underlying common stock. This increasingly popular strategy, which is especially useful during times of market volatility, allows individuals to increase their returns while decreasing their risks. Convertible Arbitrage offers a thorough explanation of this unique investment strategy. Filled with in-depth insights from an expert in the field, this comprehensive guide explores a wide range of convertible topics. Readers will be introduced to a variety of models for convertible analysis, "the Greeks," as well as the full range of hedges, including titled and leveraged hedges, as well as swaps, nontraditional hedges, and option hedging. They will also gain a firm understanding of alternative convertible structures, the use of foreign convertibles in hedging, risk management at the portfolio level, and trading and hedging risks. Convertible Arbitrage eliminates any confusion by clearly differentiating convertible arbitrage strategy from other hedging techniques such as long-short equity, merger and acquisition arbitrage, and fixed-income arbitrage. Nick Calamos (Naperville, IL) oversees research and portfolio management for Calamos Asset Management, Inc. Since 1983 his experience has centered on convertible securities investment. He received his undergraduate degree in economics from Southern Illinois University and an MS in finance from Northern Illinois University.

Table of Contents:
Chapter 1 Convertible Arbitrage: An Overview 1 Convertible Arbitrage: A Brief History 1 Why Hedge with Convertibles? 6 Convertible Arbitrage Performance 7 What About Risks? 12 Basics of Convertible Securities 15 Risk-Reward Analysis 18 Methods of Valuation 18 Convertible Profile Graph 22 Basics of Convertible Arbitrage 23 Multiple Convertible Structures 26 Appendix 1.1 32 Chapter 2 Valuation 34 Convertible Valuation Models 34 Binomial Option Model 34 Chapter 3 The Greeks 48 Measures of Risk 48 Delta (∆) 48 Gamma (Γ) 51 Vega (v) 55 Theta (ϑ) 57 Rho (ρ) 59 More on Volatility 61 Chi (χ) 64 Omicron (ο) 65 Upsilon (u) 67 Phi (f) 69 Mandatory Convertible Greeks 70 Chapter 4 Credit and Equity Considerations 74 Credit Evaluation 74 Credit Analysis and Equity Market Feedback 76 Asset Value Credit Evaluation 79 Cash Flow and Valuing a Business 85 Business Valuation Model 85 I. Cash Inflows: Capital Employed 87 II. Cash Outflows: Economic Profit 94 III. Cash-Inflow Model 100 IV. Intrinsic Business Value 106 Chapter 5 Convertible Arbitrage Techniques—Delta Hedging 110 Delta Neutral Hedge (Long Volatility) 112 Delta Estimates versus Theoretical Deltas 117 Dynamic Rebalancing of the Delta Neutral Hedge 117 Delta Neutral Hedge on Leverage 120 Delta Hedge—Currency Hedge Overlay 122 Appendix 5.1 128 Appendix 5.2 131 Chapter 6 Gamma Capture Hedging 134 Capturing the Gamma in a Convertible Hedge 134 Bearish Tilt Gamma Convertible Hedge 141 Bearish Gamma Hedge on Leverage 143 The Gamma Tilt Hedge’s Role in a Market Neutral Portfolio 145 Chapter 7 Convertible Option Hedge Techniques 148 Covered or Partially Covered Convertible Call Option Hedge 151 Long Convertible Stock Hedge with Call Write Overlay 154 Synthetic Bond—Long Busted Convertible with Call Write and Long Out-of-the-Money Call for Protection 157 Convertible Stock Hedge—Put Purchase Provides Additional Downside Protection 161 Convertible Hedge Call Write with Protective Long Put 165 Mandatory Convertible Preferred—Stock Hedge with Call Write Overlay 169 Chapter 8 Convertible Asset Swaps and Credit Default Swaps 172 Convertible Asset Swaps—Extracting Cheap Options from Investment-Grade Convertibles 172 The Mechanics of Convertible Asset Swapping 173 Swap Hedge Setup 176 Convertible Bond Credit Default Swap—Transfer Credit Risk in a Hedge 179 Appendix 8.1 185 Chapter 9 Non-traditional Hedges 194 The Reverse Hedge 194 Call Option Hedge: Monetization of a Cheap Embedded Call Option 199 Stock Hedge to Capture Cheap or Free Put Options 200 Convergence Hedges 210 Merger and Acquisition Risk Arbitrage Trades 217 Reset Convertibles (or Death Spiral Convertibles) 218 Capital Structure Hedge 218 Distressed Convertible Hedge or Negative Gamma Hedge Opportunities 220 Basket Hedging Equity Delta 231 Synthetic Worksheet Hedge 234 Dividend Reduction Convertible Hedge 236 Trading Desk Value Added 239 Trade Execution 240 Appendix 9.1 242 Appendix 9.2 244 Take-Over Risks—An Example 244 Chapter 10 Portfolio Risk Management 248 Balance Sheet Leverage 250 Scenario Analysis 252 Hedging Systematic Risks with Index Options 255 Hedging Interest Rate Risk—Yield Curve Shifts 257 Hedging Volatility with Volatility Swaps 258 Hedging Omicron with Volatility Swaps 263 Hedging Omicron with Credit Default Swap Basket or Short Closed End Funds 265 Rough Spots for Convertible Arbitrage 266 Managing the Convertible Arbitrage Manager 271 Glossary 273 Index 289

About the Author :
NICK P. CALAMOS is the Head of Investments and Chief Investment Officer overseeing research and portfolio management for Calamos Asset Management, Inc., one of the largest and most well-known convertible investment firms in the country. He oversees the #1 Convertible Fund and the #1 Growth Fund as rated by Lipper and Morningstar for the ten-year period ended 12/31/02. With the firm since 1983, Mr. Calamos has been instrumental in developing the Calamos Convertible Research System (CCRS), a sophisticated, proprietary research system that monitors and scans the entire market for the best available investment opportunities. A Chartered Financial Analyst (CFA), Mr. Calamos is a member of the Investment Analysts Society of Chicago. He has spoken at various conferences and seminars throughout the country on convertible securities investing, has been quoted as an authority on convertible securities by leading financial publications such as Barron’s, Fortune, The Wall Street Journal, USA Today, and the New York Times, and has appeared on CNBC and Bloomberg television. He received his undergraduate degree in economics from Southern Illinois University and an MS in finance from Northern Illinois University.

Review :
"...filled with in-depth insights and a wide range of convertible topics, provides a thorough explanation..." (Financial World, January 2004)