Merrill notes difficult market, but find some with attractive risk/reward profiles

By Ronda Fears

Nashville, Tenn., June 14 - It's tough in convertibles all over, but Merrill Lynch & Co. convertible analysts scoured the universe of names with stocks that are rated buy and attractive by the firm, and found 25 with nice participation levels.

"With the decline in the equity and convertible markets since March 2000, the average conversion premium in the convertible market has expanded from 25% since then to 74% today," noted Yaw Debrah, head of U.S. convertible research at Merrill Lynch in a report Friday.

"Given the high conversion premiums with which many convertibles trade today, it is difficult to get excited about a convert, even with a good rating on the stock, if the convertible is going to have minimal stock participation."

In the report, the convertible analysts took the universe of Merrill Lynch equity research buy and attractive rated names that have outstanding convertibles and highlighted those with the most attractive risk/reward profiles.

The analysis identified 25 issues the analysts believe offer favorable risk/reward profiles in the current market environment.

In a one-year horizon, these issues will provide a total return gain of at least 10% if the stock rises by 25%.

In almost all cases, the ratio of reward to risk is at least 3-to-2.

"Historically, we would define an attractive ratio of reward to risk of about 2-to-1," Debrah said.

"However, in this difficult market, such converts are few and far between."

With a high income component, mandatories are currently showing the most attractive overall risk/reward profiles, the report shows, while original issue discount (OID) bonds offer the best downside protection.

REITs were excluded as their aggressive dividend growth profile generally prohibits much premium expansion. Additionally for callable issues, parity or conversion value is below 120% of the call price.

Convertibles with the most attractive risk/reward profiles included the Tech Data 2% bond, General Motors 4.5% bond, Texas Utilities 8.125% mandatory, Dominion Resources 9.5% mandatory, Ford 6.5% convertible preferred and Affiliated Managers 0% bond.

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