"Hybrid security” is a generic term used to describe a security that combines elements of debt securities and equity securities. Hybrid securities typically promise to pay a rate of return (fixed or floating) until a certain date, in the same way debt securities do. However, they also have equity-like features that can mean they may provide a higher rate of return than regular debt securities. In some cases, this is because they give the holder an option to convert the hybrid securities into equity securities (typically ordinary shares), which will give the holder and "equity kicker" if the underlying security performs well. In other cases it may be that the hybrid securities have equity-like risks attached and the issuer has to pay a higher rate of return to compensate investors for those risks.
There are three broad types of hybrid securities – convertibles, preference shares and capital notes. Each type has different characteristics, benefits and risks.
Your first choice for more information should be the ASX booklet 'Understanding hybrid securities'. You can also review your understanding by taking the ASX on-line course on Interest rate securities or listen to an Investor Hour podcast on hybrids to learn more.
The Australian Securities and Investments Commission (ASIC) has also produced a short guide to hybrid securities emphasising that hybrid securities are complex products with higher risks than other types of securities. For more information from ASIC on hybrid securities and other investing topics, please see ASIC's MoneySmart website.
Finding a broker
If you’re already using a broker to buy and sell shares, they may also advise on hybrid securities. However if your existing broker is not active in the hybrid market, you may need to find a specialist broker in this area.
Any investment carries with it some risk. This applies to hybrid securities as it does to other investment types. Usually the greater the perceived risk, the higher the anticipated return required to compensate investors for that risk. Accordingly, hybrid securities that are perceived to have higher risk attached to them will generally attract a potential higher rate of return. Whereas, hybrid securities that are perceived to have a lower risk will generally attract a lower return.
Some key risks to consider when investing in hybrid securities are interest rate risk, credit risk and liquidity risk. Each of these risks are covered in more detail in the ASX booklet - 'Understanding Hybrids'.
Hybrid securities are generally complex in nature with potentially higher risks than other forms of investment. Investors need to understand the conditions of these offers. Investors should obtain independent advice from a professional adviser prior to making any final investment decision.