Hedge Fund Investing: A Practical Approach to Understanding Investor Motivation, Manager Profits, and Fund Performance

Strategy Profit or Loss and Exposure Reporting

A convertible arbitrage portfolio has positions in convertible bonds and some combination of short stock, fixed-income, or options positions and perhaps some CDS that are usually straightforward to price. As is usually the case, every trade or position in the fund generates a profit or loss, based on the change in the value of the security or derivative bought or sold short. The basic characteristics and processes followed for fund profit or loss and exposure reporting are similar to those followed by either long and short equity funds, fixed-income, or credit arbitrage funds. Convertible funds uniquely also report on the portfolio's delta, gamma, and vega or other risk factors that are related to the optionality of the convertible bond in the portfolio. In addition, a convertible fund may use a combination of repo and margin accounts to finance its inventory, depending on the margin requirements and rates offered by various dealers willing to finance or facilitate short sales in the bonds or equities.

Table 7.1 provides a summary of a fund's income and expense items, before considering service providers’ fees chargeable to the fund or the manager's fees for running the fund.

Table 7.1 A Summary of a Fund's Income and Expense Items.

Example of a U.S.-Style Cash-and-Carry Convertible Arbitrage Bond Trade from AIMA 2005 Report on Convertible ...