Expectations for an improved domestic economy in the second quarter only materialized partially. Indeed, things seemed to be slowing again as the period ended after the initial burst. The debt burden on many European sovereign shoulders could be pressuring U.S. economic growth, as investors, fearing a recurrence of the 2008-2009 financial crisis, became more cautious. As a result, the Dow Jones Industrial Average fell over 6% in June, which pulled it down a full 10% for the first half of the year. The Value Line Composite and the Russell 2000 fared no better, while both the broader-based S&P 500 Index and the NASDAQ fell about 12%. Needless to say, it was a difficult quarter for convertibles as well. The convertibles covered in the Value Line Convertibles database suffered another monthly loss, with the All Convertibles Total Return Index falling 1.8%, following the 3.9% loss in May. This brought the quarterly loss to 2.7%. However, the Index is in positive territory (up 2%) for the year so far.

Our Especially Recommended Convertibles Index fell 1.3% in the second quarter, but it too remained positive for the year, up 2.7%. Especially Recommended convertibles are categorized into four different risk groups based on Relative Volatility--an internal indicator of the level of risk in holding a convertible vis-à-vis its underlying common stock. The relative volatility of the stock is a measure of how risky that issue is in relation to the median stock in The Value Line Investment Survey universe of over 1,700 stocks, and the over 1,800 stocks in The Value Line Investment Survey Small and MidCap Edition. Our High Risk group consists of warrants only, and has the highest profit potential and greatest loss potential. The Above Average Volatility group carries convertibles with Relative Volatility of 95% and above, with above-average profit potential. The Modest Volatility (moderate profit potential) group has convertibles where the Relative Volatility is between 65% and 90%, and the Low Volatility (modest profit potential) group has convertibles where the Relative Volatility is 60% and below.

For the second quarter, the groups performed in reverse order. The High Risk group (containing only warrants) had the largest loss at 11%. The Above-Average Volatility group lost 4.8%, the Moderate Volatility group, 2.3%, and the Low Volatility group, 1.0%. The recommended rank 1 convertibles portfolio (including warrants) slipped 3.0% for the period, but managed to stay in positive territory with a 2.4% gained for the first half of the year. Without the warrants, the loss narrowed to 2.8% for the quarter, and the six-month figure rose to 2.7%. Meanwhile, all ranked 1 convertibles in our Survey returned 5.4% for the six-month period.

Our performance results underscore the defensive nature of our portfolio. But bear in mind that these results serve only as an indication of how investors would fare following our recommendations at the quoted trading levels. Because we depend on outside sources for prices, the pricing we report may vary from what is available to investors. Furthermore, our pricing dates lag our publication dates, which means prices investors pay will invariably differ at the point of purchase. Moreover, commission costs and other expenses are not taken into consideration for our calculations.

While past results are no assurance of future performance, Value Line's Convertible Ranking System has proven effective over the years. In fact, our recommendations are constantly being monitored by Mark Hulbert of Hulbert Financial Digest, and the results have shown that our selections are among the better performers. We remain confident that our proprietary model will continue to discriminate effectively among our universe of convertible securities, giving subscribers an edge in the convertibles market.