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A convertible debt that can be converted into shares shares of common stock is known as a convertible corporate bond. The pricing or conversion ratio is based on a fixed convert price and the par value amount of bonds owned.
If an investor owns $1000 par value of a corporate bond that has a convertible price of 50 can own 20 shares of stock (1000 divided by 50). The pricing of these bonds tends to trade near par, since the price or interest rate risk with these bonds is less because of the conversion feature.
Normally when interest rates rise, bond prices go down. That is true with most bonds. Convertible securities offer investors a way out of the bond into stock of the company. That fact keeps the pricing market fairly stable on these bonds.
Parity Definition
The definition of parity is when the value of the bond is equal to the value of the common stock on a convertible security. Using the above numbers, if the common stock was selling at $50 a share, a par bond of $1000 is equal (20 shares times 50 = 1000)
If the stock was only selling at $45 a share, the stock value would be $900. The shares would be trading at a discount to parity with the bond or the debt is at a pricing premium parity to the stock.
Convertible bonds can be an attractive investment for portfolios. They offer guaranteed interest and the ability to own shares in the corporation at a fixed conversion price, for as long as you own the debt.
Corporate Bond Blog - Read more info and post questions.
Copyright  2006 American Investment Training, Inc.
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