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finesse 4-5% of the price is a mug’s game. Conversely, waiting for a bad investment to ‘bounce’ so that one can sell closer to one’s entry price is tempting the fates to send the price crashing. Once an investment decision is made, building or cutting a position should be undertaken as soon as possible.

      12. “Specious in theory, yet ruinous in practice.”

      Edmund Burke wrote, “a thing may look specious in theory, and yet be ruinous in practice; a thing may look evil in theory, and yet in practice be excellent”. In other words, experience teaches one to avoid the recommendations of others, and profit by one’s own instincts. This may not be the best rule for a stockbroker to write but seems to be an appropriate piece of advice with which to conclude!

      John P. Calamos

      John P. Calamos has specialized in investment research and portfolio management of convertible securities for major institutional and individual investors for over 20 years.

      A frequent speaker at investment seminars and conferences, he has taught graduate level courses on finance and investments and is frequently quoted as an authority on convertible securities.

      Books

      Convertible Securities: The Latest Instruments, McGraw-Hill, 1998.

      Investing in Convertible Securities, Dearborn, 1988.

      Convertible Arbitrage: Insights and Techniques for Successful Hedging, John Wiley & Sons Inc, 2003

      Convertible bonds

      1. The key to building wealth lies in controlling risk - a favorable risk/reward profile is critical to superior performance.

      Successful investors manage risk while pursuing returns, recognizing the importance of both to the investment equation. Explore the use of convertible bonds as a unique risk-control measure. Their bond features help cushion the impact of stock market declines, while their potential participation in rising stock prices has no ceiling.

      2. The upside/downside risk of convertible bonds is different from that of the underlying stock.

      Historically, convertible bonds have offered about two-thirds of the upside performance and about one-third of the downside risk of the underlying common stock. One reason the two dimensions are unequal is because the bond’s interest payments and fixed-income principal help moderate the downside but do not impact the upside.

      3. Convertible bonds enhance yield in comparison to common stock.

      That is because they often pay interest far greater than the dividends paid on the underlying common stock. Growth-oriented companies often issue convertibles because they expect their rising stock prices to change debt to equity, and these companies in particular may pay low dividends or none at all.

      4. Convertible bonds’ credit ratings don’t tell the whole story in evaluating risk.

      Credit ratings are an important consideration - but not the only one - in assessing risk. They simply evaluate the ability of the company to repay principal and interest, but in selecting a convertible, the portfolio manager also considers the potential performance of the underlying stock, the unique risk characteristics of the convertible, and the role each position plays in the portfolio’s risk/reward profile.

      5. The convertible market is not efficient in the short run.

      Today’s knowledgeable investor can still unearth inefficiencies and profit from them.

      6. Any time can be the right time to buy a convertible bond.

      Convertibles have both offensive and defensive traits. When the stock market is barreling forward, they participate, unlike straight bonds. And when stocks are retreating, they act more like bonds. There is no wrong time for convertibles as an asset class.

      7. In taming convertibles, remember that they are social animals.

      They function best in ‘packs’. They probably won’t function as effectively individually as they do in a portfolio that is carefully structured for overall risk/reward, as well as diversification.

      8. Consider a convertible portfolio for diverse roles in your asset allocation strategy.

      Convertibles are versatile. As part of a fixed-income portfolio, they can provide a competitive income stream while enhancing diversification and decreasing overall risk. As an equity alternative, they offer potential capital gains and can help protect against interest rate volatility. And since the performance of convertibles does not correlate directly to that of either the straight bond or stock markets, as a separate asset class they can enhance the portfolio’s diversification.

      9. There’s no free lunch in convertible investing.

      Convertibles offer the potential benefits of both stocks and bonds. However, there is a tradeoff - they generally pay a lower coupon rate than the equivalent straight bonds since the convertibility feature provides potential upside participation in the stock’s performance.

      10. Don’t try this at home - convertible investing is best left to the professionals.

      Unless you are trained and have the time to devote to security analysis, use managed money (mutual funds or professional investment advisors). Let experts do the work for you - but check their investment philosophy and be sure it agrees with your investment plan.

      A convertible portfolio must be actively managed to help reap the benefits of its unique risk/reward characteristics. Convertible investing benefits from extensive quantitative analysis, and the pros also have access to trading opportunities that are not available to the individual investor.

      ‘Your best chance of making yourself fabulously wealthy investing is to buy a few small stocks with good growth possibilities; you just might find the next Microsoft. Of course, it is far more likely that you will lose most of your money this way. On the other hand, although you cannot achieve extremely high returns with a diversified portfolio, it is the best way to avoid a retirement diet of cat food.’

      William Bernstein

      Thom Calandra

      Thom Calandra is executive vice president of news and editor-in-chief of MarketWatch.com.

      He returned to San Francisco in July 2001 after spending a year in London masterminding the successful launch of FT MarketWatch. Thom writes StockWatch, a popular daily column about U.S. investment trends, and has been named one of the 100 most influential financial journalists in the US.

      General principles and the growing importance of debt analysis

      1. Paint a contrarian streak across your portfolio.

      Dare to be different. Everyone can’t be right, as the tech sell-off is teaching us. The minority can’t always be wrong. That doesn’t mean you need to convert your entire wad into cash or gold. But it does mean respecting divergent opinions.

      2. Understand dominant trends - they can make or save you money.

      Stock markets the world over are experiencing sharper intra-day swings, for example. That’s an age-old trend called volatility - which you can now trade as a security in the form of the CBOE Nasdaq Volatility Index.

      3. Don’t trust equity professionals - their research is besmirched.

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