In my travels around Asia the past couple of weeks, I’ve been meeting with various banks and investors to learn more about the FX market in connection with our big initiative there. Stopped in to see a decent sized U.S. hedge fund and was fascinated by the investment strategy.
Among other tings, these folks invest in convertible bonds issued in local currencies in home countries. They end up with three factors that can affect returns: credit exposure, changes in interest rates and changes in currency values. The manager relayed an interesting anecdote that explained the benefit of such a strategy: the bond and underlying stock hadn’t moved much in price but the currency had to the point it allowed him to convert the bonds into stock and then sell the stock, convert the currency to dollars and make a handsome return. In other words, currency fluctuations in transactions like this can help take an out-of-the-money convertible and all of a sudden bring it in the money.
It was also fascinating to hear what he looks at first when deciding to invest in non-dollar denominated securities issued in this region – geo-political risk. He looks at the stability of a government and what that means later in terms of economic growth and the typical economic indicators. A fragile government, he noted, can lead to more than short-term economic insstability.