The key driver of underperformance in US convertible bonds year-to-date has been the equity-sector bias of the universe.

The chart highlights this underperformance and shows that in July, the performance gap between the S&P500 and the equity component of US convertibles narrowed significantly.

As the market’s focus moved away from inflation fears and towards the growth slowdown, there was some sector rotation in equity markets that favoured convertibles. We think this sector rotation could last longer and help US convertibles outperform in the coming months.
 

1-year rolling performance of US equities: S&P500 vs. US convertible bonds issuers

Source: Bloomberg, BlueBay Asset Management. Daily data to 29 July 2022
 

Outlook

Timing the end of a bear market is extremely hard. We believe investing in convertibles today is a way to position for a recovery without having to think about timing.

If we were to have another leg in this bear market, we expect convertibles to show some resilience as valuations are now so cheap, the universe still holds a large portion of investment-grade exposure and the average life of the universe is short.

If this bear market were to end quickly, convertible bonds have a lot of room to re-rate, offering notable upside potential.

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