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flash EXPErTISE JULY 2009 "Convertibles" expertise at Natixis Asset Management Natixis Convertibles Euro et Natixis Convertibles Europe Like the other asset classes, convertible bonds have been strongly impacted by the financial crisis during 2008, causing an excessive devaluation of securities at the end of last year. Since April 2009 a significant rise of the asset class can be observed. The question arises of whether one can still benefit from interesting opportunities lay investing in convertible bonds.
During the crisis, a devaluated asset but a resistant one n A devaluated asset until March 2009 Until the beginning of 2009, convertible bonds suffered both from an aggravation of their usual valuation factors (expansion of spreads and stock market meltdown) and massive sell-offs, due to a rising aversion towards risks and to the need for certain hedge-funds to liquidate assets in order to face the redemptions. This combination of movements generated an excessive devaluation of convertible bonds, as the optional part admitted a valuation at 0 and the credit part a large discount compared to other corporate bonds.
n A resistant asset Despite this period of devaluation at the turn of the year 2008, convertible bonds display an excellent resistance since September 2008. As detailed on the chart below, convertible bonds did not follow the stock market meltdown during the 1st quarter of 2009. Conversely, they progressively rebounded with rising stocks and decrease in credit spreads. With an average delta between 10% and 20% since November 2008, convertible bonds reveal a performance that is close to the one from the stock market, which is remarkable given the low volatility of the asset over the period.
Index performances
30 /0 6/ 14 08 /0 7/ 08
0
22 /0 9/ 08 6/ 10 /0 8 20 /1 0/ 08 3/ 11 /0 17 8 /1 1/ 0 1/ 8 12 /0 8 15 /1 2/ 0 29 8 /1 2/ 0 12 8 /0 1/ 26 09 /0 1/ 09 9/ 02 /0 9 23 /0 2/ 0 9/ 9 03 /0 9 23 /0 3/ 0 6/ 9 04 /0 9 20 /0 4/ 09 4/ 05 /0 9 18 /0 5/ 09 1/ 06 /0 15 9 /0 6/ 09 29 /0 6/ 09
10
28 /0 7/ 08 11 /0 8/ 25 08 /0 8/ 0 8/ 8 09 /0 8
10 8/09/08 6/10/08 3/11/08 1/12/08 9/02/09 9/03/09 6/04/09 4/05/09 1/06/09 30/06/08 14/07/08 28/07/08 11/08/08 25/08/08 22/09/08 20/10/08 17/11/08 15/12/08 29/12/08 12/01/09 26/01/09 23/02/09 23/03/09 20/04/09 18/05/09 15/06/09 29/06/09 8/09/08 6/10/08 3/11/08 1/12/08 9/02/09 9/03/09 6/04/09 4/05/09 1/06/09 30/06/08 14/07/08 28/07/08 11/08/08 25/08/08 22/09/08 20/10/08 17/11/08 15/12/08 29/12/08 12/01/09 26/01/09 23/02/09 23/03/09 20/04/09 18/05/09 15/06/09 29/06/09
Index volatilities ECI Euro 18.23 % ECI Europe 17.5 % DJ Euro Stoxx 50 38 % Source : Natixis Asset Management, from 30/06/2008 to 30/06/2009.
-10 0
8/09/08 6/10/08 3/11/08 1/12/08 9/02/09 9/03/09 6/04/09 4/05/09 1/06/09 30/06/08 14/07/08 28/07/08 11/08/08 25/08/08 22/09/08 20/10/08 17/11/08 15/12/08 29/12/08 12/01/09 26/01/09 23/02/09 23/03/09 20/04/09 18/05/09 -20 -10
Comparison
between the ECI the ECI Europe the DJ Euro Stoxx 50 from 30/06/2008 to 30/06/2009
ECI Europe Europe index, ECI Europe Underlyings DJ Euro Stoxx 50 underlyings and
-30 -20 -40 -30
ECI Europe ECI Europe Underlyings DJ Euro Stoxx 50
-50 -40
Source : Bloomberg, from 30/06/2008 to 30/06/2009.
Past performance is not a reliable indicator of future performance
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flash EXPErTISE
The observation remains the same over a longer period: the convertible asset offers a competitive risk-return couple compared to the one of stocks. Thus, convertibles with an investment horizon of 3 to 15 years frequently display a better performance than stocks with a volatility at least twice as low.
Evolution of the Exane Convertible Index Europe compared to the DJ Euro Stoxx 50, NDR Annualized performance
Volatility
ECI Europe
DJ Euro Stoxx 50
ECI Europe
DJ Euro Stoxx 50
- 3.2 % 1.2 % 2.3 % 6.3 %
-12.1 % -2 % -2.3 % 5.2 %
8.1 % 8% 9.1 % 9.4 %
25.6 % 16.9 % 21.2 % 19.9 %
3 years 5 years 10 years 15 years
Past performance is not a reliable indicator of future performance
Source: Exane, as of 31/12/2008.
After a strong rebound in the last three months, is it too late to invest? In the last months convertible bonds have corrected their previous excessive losses, availing themselves of a significant regain of performance – due to a narrowing of credit spreads, a rise of the stock markets and an increase of implicit volatilities. However, despite this rebound, convertible bonds remain slightly undervalued these days on both bond and optional components. On the credit part: the spreads are showing a 10%-undervaluation compared to ordinary bonds.
l
On the optional part: the implicit volatility of convertible bonds (33%) keeps being discounted compared to the historic volatility 9 months of the DJ Euro Stoxx 50 (41%).
l
Hence, prices remain attractive for the asset class.
Comparaison between implicit volatility of CB and historical volatility of equities
Comparaison between implicit volatility of CB and historical volatility of equities
60 55 50 45 40 35 Levels 30 25 20 15 10
5 6 06 06 07 07 07 07 07 07 08 08 08 08 . 08 . 08 . 09 09 i 09 05 05 06 06 6 t. il. 0 pt. ov. nv. rs ai 0 il. 0 pt. ov. nv. rs ai uil. v. rs ai il. v. pt ov nv rs a
p No an a M Ju Se M J M Ju Se N Ja Ma M N jan-07 Ju Se N jan-06 Ja Ma mai-07 Ja Ma mai-06 M mai-08 Se nov-07 J juil-05 jan-08 juil-08 jan-09 sep-05 sep-06 sep-07 sep-08 mai-09 nov-05 nov-06 nov-08 mars-06 juil-06 mars-07 juil-07 mars-08 mars-09
Implicit volatility of CB
9 M historical volatility of DJ Euro stoxx 50
Besides, the decreasing risk Source: Natixis Asset Management, as of 30/06/2009. aversion which marks a progressive return to normal conditions is likely to sustain. In this context, spreads are to stabilise or narrow slowly over the year. Lastly, the upsurge of the primary market is an additional factor of performance. The issuers prefer to ensure themselves of the success of the issue by choosing attractive conditions. New emissions have hence been often executed below their actual value, causing thus rapidly a bond quotation above par after the issuing. The expansion of the investment universe allows a sectorial diversification and increases the attractiveness of the asset by raising its convexity. The success of the primary issues has created a real emphasis on the asset class that is becoming attractive again for investors due to its risk profile. This enthusiasm significantly supports prices.
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flash EXPERTISE Reminder on Natixis Convertibles Euro and Natixis Convertibles Europe funds Natixis Convertibles Euro (I share : FR0010658963) and Natixis Convertibles Europe (I share : FR0010171678), two convertible funds of Natixis Asset Management.
n Their construction Bond Convertible bond
Call option on the underlying stock
n Their behaviour Convertible bond convexity "Bond" profile
"Mixed" profile
"Stock" profile
Evolution of the underlying stock
Bond value of the convertible bond Stock price
Underlying stock price
Imput : Natixis AM
n Their Investment team strategy l
An opportunistic management of the convexity through the seek of “Mixed� profile securities:
"Mixed" profil
The convertible bond's delta is included in a medium bracket
The convertible bond benefit from the stock increase and suffers less from its decrease thanks to the bond backing
Optimization of the risk/return profile by targeting a portfolio delta between 30% and 60% for Natixis Convertibles Euro, 20% and 70% for Natixis Convertibles Europe l A strategy relying on stock and bond picking l
n The portfolio composition Natixis Convertibles Euro: Invested mainly in convertible bonds from OECD member issuers, mainly denominated in Euro. The fund can marginally invest in Swiss Franc and GBP. The change risk is systematically hedged. l Natixis Convertibles Europe: Invested mainly in convertible bonds from OECD member issuers, mainly denominated in Euro and in other devises life Dollar, Swiss Franc and GBP. The change risk is not systematically hedged. The two funds have the same process and investment strategy, Natixis Convertibles Europe universe being larger. l
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