What characterizes a busted convertible?

A busted convertible is characterized as a convertible security trading like a straight bond. This occurs when the equity component of the convertible security has diminished significantly, typically because the underlying stock's price has fallen far below the conversion price. In such cases, investors view the security primarily as a bond rather than a stock option, since converting the bond into equity would not be beneficial.

This situation arises when the market price of the convertible is primarily influenced by the fixed income characteristics, such as interest payments and repayment of principal, rather than the potential upside of conversion to equity. Busted convertibles often reflect investor sentiment that favors the bond features due to poor performance of the underlying stock or unfavorable market conditions, making the conversion feature unattractive. As a result, they trade similarly to traditional debt instruments with little or no value as equity securities.

The focus on the bond-like characteristics of these securities highlights the shift in investor perception and valuation, underlining why "C" is the defining answer for a busted convertible.