By Alasdair Pal and Francesco Canepa
LONDON (Reuters) - Alcatel Lucent's (ALUA.PA) convertible bonds rallied to record highs on Tuesday as hedge funds and other investors bet on a takeover of the telecoms equipment maker by Nokia, hoping for a windfall profit.
Alcatel's three convertible bonds (CB) had surged by between 20 percent and 33 percent by 0857 EDT after the French company entered talks with Nokia (NOK1V.HE) about being acquired by its larger Finnish rival
If Alcatel is taken over, holders of its convertible bonds will have their notes swapped 'at par', giving them a discount of between 32 and 40 percent to the company's stock price, according to the bonds' terms.
"If there is a full takeover of Alcatel by Nokia, holders of the Alcatel converts ... have done very well," a London-based trader said.
Debt-laden Alcatel-Lucent issued three convertible bonds worth a total 1.8 billion euros ($1.91 billion) between 2013 and 2014.
Prices of the bonds, which expire in 2018, 2019 and 2020, had risen by between 45 percent and 135 percent from the time of their issue to the market close on Monday, according to Thomson Reuters data.
Alcatel, whose share price jumped 16 percent on Tuesday on news of the takeover talks, declined to comment.
While bondholders' names are not publicly disclosed, traders said several hedge funds owned Alcatel's convertible notes, often counterbalancing those positions with "short" bets on a fall in the company's share price.
Hedge funds Susquehanna International Holdings, Aristeia Capital, CQS, AQR Capital Management and Och-Ziff Management, as well as French banks BNP Paribas and Natixis, had "short" positions of between 0.5 percent and 1.96 percent of Alcatel's share capital, according to filings with French market regulator AMF.
A spokesman for Aristea said the fund follows a convertible bond arbitrage strategy, among others, but declined to comment on specific positions. CQS also declined to comment, while the other firms were not immediately available to comment.
Short sellers borrow a stock and sell it, betting they will be able to buy it back at a lower price before returning it to the lender, pocketing the difference.
Around 9 percent of Alcatel's share capital was out on loan to short sellers at the market close on Monday, according to Markit data, which means their aggregate short position was worth 695 million euros ($734.13 million).
($1 = 0.9405 euros)
(Additional reporting by Owen Wild, and Blaise Robinson in Paris; Editing by Susan Fenton)