Converts -- the Best of Both Worlds? Part II

Tuesday, we kicked off our three-part series on convertibles with a piece that introduced the hybrid security that co-mingles features of stocks and bonds. If you missed that piece, click here. Today, we'll explain exactly how "converts" are priced and valued. Tomorrow, we'll talk about what to look for when buying a convert, and how fund investors can play too.

Though converts are equity-income hybrids, they are undoubtedly defensive. No matter how far the underlying stock falls, if the market takes a bearish turn, convert investors are still guaranteed their quarterly or semiannual coupon payment. Even if the convertible security, which often will trade on the secondary market, falls in tandem with the underlying stock, investors will still be paid their interest coupon.

"Volatility fears are making convertibles much more popular," explains Anand Iyer, managing director in Salomon Smith Barney's global convertible and product analysis group. ...