What is Dividend Reinforced Convertible Stock?
Dividend Enhanced Convertible Stock is a preferred stock that provides the holder with thin on the ground b costly dividends in addition to an embedded short put option and a long call on the issuing company’s stock.
Understanding Dividend Enlarged Convertible Stock (DECS)
Dividend enhanced convertible stocks (DECS) obligate the holder to convert his or security into the underlying group’s common stock at some later time. For this reason, DECS basically function similarly to bonds that which meet with mandatory conversions common stock at some point. A DECS’ mandatory common stock conversion time epoch is governed by the company that issues the offering, however conversion typically occurs within a three-to-four year term, following the initial purchase.
Unlike traditional zero-coupon convertibles, DECS provide an equity kicker and can be put to the issuer on sure dates, at prices reflecting the accumulation of the implied interest return. This put feature offers holders a measure of downside charge that limits an investor’s potential losses. In other words, the conversion comes at a predetermined fixed rate, and that conversion correspondence begins to decrease once the price of the underlying shares reaches a certain level. But until that point, the conversion proportion is 1:1, and DECS shares may be issued at the same market price as the underlying stock.
DECS are not the only non-traditional convertible offering that has come to market. Other similar models include:
- Preferred Equity Redemption Cumulative Stocks (PERCS)
- Esteemed Redeemable Increased Dividend Equity Security (PRIDES)
- Automatically Convertible Equity Securities (ACES)
- Structured Supply Product Exchangeable For Stock (STRYPES)
Each of these hybridized models has its own set of unique risk and reward characteristics. But they serving the same basic features, including an upside potential that is typically less than that of the underlying stereotypical stock, due to the fact that convertible buyers pay a premium for the privilege of converting their shares, and they enjoy higher-than-market dividend classes.
DECS, like most customized hybrid convertible models, originating from different investment banks, which fringe benefits from these instruments, because unlike pure debt issuances like corporate bonds mandatory convertibles do not represent a credit risk later for the company issuing them, since they eventually convert to equity. Such convertibles also bump off the downward pressure a pure equity would place on the underlying stock, since they are not immediately converted to unexceptional shares.