Creating portfolio agility through convertible securities

Through exclusive partnership, Ninepoint offers Canadians the chance for equity-like appreciation and downside protection

Creating portfolio agility through convertible securities

In 2020, when the impact of the pandemic shook households, businesses, and entire economies to their very foundation, a curious segment of the financial markets took off like a rocket – and it’s not SPACs.

“2020 was a record year for new issuances of convertible securities,” said David Sum, director at the Alternative Income Group at Ninepoint Partners. “From what we’ve seen, the first quarter of this year has been really active as well – one of the strongest starts in terms of new issuances.”

The term “convertible securities” captures a variety of different assets across the equity and fixed-income space, of which convertible bonds are among the most typical. Those types of securities – bonds that come with the option to be converted into a pre-determined number of equity securities, under certain conditions – are what Ninepoint aims to give Canadian investors access to with the Ninepoint Convertible Securities Fund, which it launched in March this year.

“We definitely saw a gap in availability in the Canadian marketplace, particularly when it comes to large-cap convertibles that have an exposure to the North American market,” said Ramesh Kashyap, managing director of the Alternative Income Group. “Because the convertible market really doesn't exist materially in Canada, from our perspective, we thought that it would be a great opportunity to introduce a way to access it to Canadian investors.”

According to Sum, the recent groundswell in issuances of convertibles is partly because of their increasing attractiveness to investors. With convertible bonds in particular, investors are able to get downside support and fixed income features such as interest and principal payments, while also retaining the ability to participate in further upside if equity markets do continue to rise.

“Over the long term, we believe that an allocation to convertibles can enhance an investor's portfolio by offering returns similar to what one might get in a traditional stock and bond portfolio but with the added benefit of reduced volatility,” he said. “They can provide the potential for equity-like appreciation while offering downside protection through fixed income features that the asset class has.”

While some people dismiss convertible bonds as fixed-income securities that simply behave more like equity, Kashyap maintained that they’re a good complement to traditional stock and bond exposure. Beyond that, he said, compelling opportunities usually emerge from the space during periods of growth when issuers engage in opportunistic transactions.

“I think it provides a very flexible hybrid approach to an investor, depending on how the market goes,” he added. “Obviously, the equity markets are volatile, and the bond market is somewhat muted when it comes to return right now. I think this gives some optionality for investors and to capitalize on what is happening in the marketplace quickly.”

As Kashyap related, Ninepoint sees the fastest-growing sectors including technology, healthcare, and information services, as fertile grounds in the convertible bonds space. And while 2020 was a tough year to follow in terms of just how opportunistic the market turned out to be in that period, he believes 2021 should still be a good year for convertible bonds.

“Convertible securities could lend themselves well to an environment such as 2021, where there is a backdrop of strong economic recovery,” Sum said. “There has been accommodative fiscal and monetary policy, but those are balanced against concerns about inflation and potentially rising interest rates, which could lead to periods of increased volatility during the year.”

The Ninepont Convertible Securities Fund – which the firm expects to eventually exceed $500 million in AUM, Kashyap said – has seen a lot of interest from institutional investors as well as retail investors. Aside from the pure investment case for convertible bond exposure, the fund’s strength comes from Ninepoint’s exclusive partnership with Columbia Threadneedle Investments, the fund’s portfolio manager.

“We looked long and hard to find a reputable brand name to partner with on this fund in Canada, and we couldn’t find anything close to Columbia,” Kashyap said. “Through our strategic partnership, we’ve become the only alternative firm that can provide Canadian investors with access to this world-class convertible securities strategy.”

An American asset manager with a multinational footprint, Columbia Threadneedle Investments manages US$547 billion for both institutional and individual investors, around US$2.6 billion of which is in the convertible securities strategy. Actively managed, the strategy focuses on the U.S. convertible market, which represents an estimated two thirds of the convertible bond universe.

The team behind the strategy has an impressive depth of expertise, having worked together through multiple market cycles; David King and Yan Jin, the team’s co-leaders, are both veterans with more than a quarter-century of experience. That extensive knowledge gives them an ability to analyse and review convertible deals that are difficult to replicate or match.

“The new issuance market is fast-paced,” Sum said. “A high percentage of issuances are executed under Rule 144A, so they are not exchange-listed. A new deal may come to market, and you have a few hours to process and identify whether you'd like to participate or not.”

Through the partnership, Ninepoint has access to large amounts of data across Columbia’s businesses and funds. And with a global army of 200 research analysts at its disposal, Columbia’s convertible securities team can very efficiently analyse the data, talk about it with Columbia’s global research team, and help make decisions quickly.

“In this market, you don’t have the luxury of having 100% of the information to make a decision, and you can’t afford to take 24 or 48 hours to sleep on it,” Kashyap said. “You need to meet at eight o'clock in the morning, and get to a decision by 12 o'clock that day. That access to data and access to information and insight, combined with how efficient they are at making a decision, is what makes a team like the one in Columbia successful.”

“Columbia has a very strong culture of risk management, which aligns with what we value in terms of oversight at Ninepoint,” Sum added. “The combination of their agility and strong management culture … those were very important for us.