Hybrid securities

What is a hybrid product?

A hybrid product is a unique financial instrument that typically combines features from multiple asset classes. These products are generally more complex to understand and to value than simple instruments, and they are intended for a well-informed public aware of the intrinsic risks. 

A complex and risky product

While most of the time hybrid securities combine debt and equity characteristics, it is not always the case. Some products may also cover equity and credit classes, foreign exchange and interest rate classes, or any other combination. As investor demands become increasingly sophisticated, new types of hybrid securities are constantly being introduced to try to meet these needs. Before the 2008 crisis, some hybrid products combined features from more than two asset classes and became so complex that they led investors to take on risks that were poorly understood or underestimated. 

What is the most common example of a hybrid product?

The most common example of a hybrid security is the convertible bond. It behaves like a traditional bond but its price is strongly influenced by the movements of the underlying share into which it can be converted. It gives its holder the right (but not the obligation) to exchange it for one or more shares during a given period. It is therefore a classic bond, enhanced by a call option on the issuer's existing or new shares, thus combining the characteristics of a fixed-income product and an equity derivative.