The use of the word "requires" in the covenants of the bonds is really just a clever gimmick (courtesy of the financial "engineers" on Wall Street) because mathematically it is necessary for the stock price to rise anyway for it to be economic for a holder to convert. But "requires" allows Wall Street securities lawyers to substantiate a position that a company issuing such a convertible would not have to account for dilution: since there was a possibility that the bond would never be converted, the company would not have to account for dilution of stock.
Companies loved to issue Co-Cos since they did not dilute the stock: almost all convertible bonds (85%) that have been issued over the last three years have been Co-Cos.
But recently the FASB has communicated that they see through the gimmick. Wall Street lawyers backed quickly off their stance: companies issuing Co-Cos would have to incorporate any possible dilution in accounting for stock outstanding.
Co-Co issuance has ceased and has caused convertible issuance in general to grind to a halt.
Two things are likely to happen now. First, convertible bond hedge funds have lost a primary source of profitability, the primary issuance of convertible bonds, and will consequently make less money. Second, secondary issues in the market should get a slight lift in price (basis) as money stops chasing new issues and chases the old ones, thus causing a temporary improvement in performance. This last point of course depends on whether new money will continue to come into these funds or go out; if it comes out, forget the second point.
So convertible bond hedge funds are in somewhat of a spot here. That is, until Wall Street comes up with another gimmick.
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