El Paso reoffered at 97.5; Ford off as exodus goes on; sell-off targets high-risk issues like Charter, Saks

By Ronda Fears

Nashville, April 12 - It was a brutal session for convertibles, traders on both sides of the market agreed. A late day reversal in stocks and the rally in Treasuries did not materialize in any real gains for convertibles, though many issues were marked up alongside respective stocks.

"Sellers were overwhelming [the] buyers," as one sellside trader put it. "If you had a rho [interest rate] hedge you were hurting because we didn't get any help from the rise in Treasuries as you would expect. And we got nothing from the stock market either."

Minutes from the Federal Reserve's meeting March 22 indicating plans to stick with "measured" interest rate hikes, at least in the short term, sparked a rally in Treasuries that pushed yields lower. The news also turned stocks around for a positive close after they spent much of the session in negative territory.

A buyside market source said the convertible market trended softer and softer throughout the session, and he heard that "two big funds were selling big" on Tuesday. However, the magnitude of "big" was vague.

Another sellside trader bids were "thin" and the convertible market definitely felt weaker overall, but he said he'd not seen anything suggesting there were complete liquidations in progress.

Zero tolerance is selling catalyst

Whether there are complete liquidations taking place among convertible funds or not, several traders remarked about "heavy" selling in high-risk names.

"I think you could say there seems to be a trend in the fact that because risk tolerance is nil, any names with any risk associated with them are practically all for sale," said a sellside trader. "These are the Charters, Saks, Level 3s, Fords of the market."

Charter Communications Inc. was one of the names bandied about in the framework of heavy selling by a handful of convertible traders Tuesday with the short-dated 4.75% converts described about 1 point lower and the new 5.875% due 2009 down by 1.5 to 2 points.

Ford Motor Co.'s convert continues to see what one trader called a "mass exodus" in the wake of its earnings warnings for this year and next. The 6.5% issue lost another 0.75 point Tuesday to settle out the day at 39 while the stock dropped 38 cents, or 3.64%, to $10.06.

It was even tough for paper recently put into circulation, traders said, and buyside traders added that the gray market for new issues has essentially dried completely up.

"We need to get some decent pricing for arbs on new issues," a convert trader at a huge hedge fund in New York said, although he conceded that outright convertible buyers have not been altogether pleased with new deal terms so far this year.

Chesapeake Energy returns

While El Paso Corp.'s new deal struggled even at a below-par reoffer price, market sources expected that a new deal from Chesapeake Energy Corp. - another repeat issuer in the convertible market - would be a blowout because of the popularity of paper in the sector right now.

"El Paso's deal just wasn't priced right. Chesapeake, I think, will be a home run," said a buyside trader at a shop in New York. "The energy sector is hot right now. Probably oil and gas issues would do better than power producers like El Paso, but that's beside the point. Chesapeake has converts that a lot of people would like to own, but they are just too deep in the money. So, the new issue will be great."

Chesapeake Energy launched $400 million of convertible perpetual preferreds with price talk of a 4.5% to 5.0% dividend and 30% to 35% initial conversion premium after Tuesday's close with pricing set for Wednesday along with a new $600 million junk bond due 2016.

The convertible will carry dividend protection for up to 22 cents per year in common dividends, versus the company's current 18 cents per year, or 0.84%, common dividend. Chesapeake Energy shares closed Tuesday down 64 cents, or 3%, at $20.72 and in after-hours trading were off another 22 cents, or 1.06%.

Oklahoma City based Chesapeake Energy, which is heavily weighted to natural gas rather than crude oil, also has a 4.125% and 5% convertible preferreds, both perpetual issues, and a couple of other convertibles that have matured or been converted early. The 4.125s are trading in the 141 area and the 5s at around 143.

Buysider likes growth strategy

Chesapeake Energy has appeal from both a stock and credit standpoint but its securities are "just too over-priced," with the stock trading at a price to earnings ratio of 13.87 times and the credit trading as tight as 150 basis points, said a buyside source who owns some existing Chesapeake Energy convertibles. "So, from both perspectives, the convertible is a cheaper way to play the name."

Growth through acquisitions has been a big magnet drawing investors to Chesapeake Energy, he said. But he acknowledged that the company's aggressive acquisition strategy also has been a sticking point for credit analysts, as well.

Chesapeake Energy is using proceeds from the latest offerings to fund $686 million of recently announced acquisitions of oil and gas properties, or in the event the acquisitions are not consummated, to repay debt under its bank credit facility.

Through the transactions, Chesapeake Energy said it anticipates adding an estimated 566 billion cubic feet of natural gas equivalent of proved, probable and possible reserves with current net production estimated at 61 million cubic feet of natural gas equivalent per day from 405 existing wells. The company said it has hedged all the oil and gas production associated with those properties at levels that are well above the prices used to value the acquisitions.

El Paso lower right out of box

El Paso Corp.'s deal had to be sweetened further, as expected by several market sources, but sources close to the deal said it was fully placed. Some onlookers speculated that the underwriters involved might be left holding a lot of the $750 million issue because it was reoffered below par, but that apparently was not the case.

The perpetual convertible preferred priced at par of 1,000 with a 4.99% dividend and 25% initial conversion premium, then joint bookrunners Deutsche Bank Securities and Banc of America Securities reoffered the issue at 97.5% of par. The dividend was sweetened from original price talk for 4.375% to 4.875% and the premium was set at the cheap end of guidance for 25% to 30%. The deal had been delayed from last Thursday because El Paso announced another restatement to previous earnings reports made with the SEC.

"It was very frustrating. There was some confusion about the issues involved, the restatements, et cetera, but with some time and quite a bit a tweaking it all got put into market," one source said.

A buyside player in the arb community said that even though he got involved in the new El Paso convert, it appeared to mostly have been placed with outright buyers. Still, he suggested he was not happy with his decision to participate in the deal.

"I worked my tail off on the El Paso deal, and eventually made a little money, but it was just too much work," he remarked. "And, I already had a short position" in the stock.

Another buyside trader said the first look at the new El Paso convert out of the box showed it at 97; several buyside traders said they never saw it move higher than 98 on the bid side and didn't see a trade above 97.25.

Deutsche Bank closed the issue out at 99.5 bid, 100 offered, while the stock lost 2 cents to close at $10.40.

Nabi issue modeled 1% cheap

Nabi Biopharmaceuticals' new deal was nowhere to be seen in the gray market. The $125 million of 20-year convertible notes - talked to yield 2.375% to 2.875% coupon and 30% to 35% initial conversion premium - "appeared to be priced decent, but not priced to sell," as one buyside trader put it.

Merrill Lynch analysts put the issue 1.1% cheap at the middle of the current price talk, using a credit spread of 500 basis points over Treasuries and a 43% volatility, with a range of 3.2% cheap to 1.2% rich at the respective ends of the guidance. That valuation was based on a stock price of $11.67.

The company has no straight or convertible debt outstanding except about $23 million in bank debt and it has a B issuer credit rating from Standard & Poor's, noted Merrill analyst Tatyana Hube. She said the company has a few close industry comparables that are similar in size with publicly traded debt, including convertibles, such as Connetics Corp. Medarex Inc., CV Therapeutics Inc. and Abgenix Inc.

Hube added that Nabi Biopharma is a small-cap company with slowly dwindling revenues, whose earnings and EBIT turned negative after 2002 and EBITDA turned negative in the second half of 2004, but it has about $111 million in cash. Thus, she added, the new convertible will increase the company's debt burden and its financial risk by virtue of currently non-existent interest coverage.

Boca Raton, Fla.-based Nabi said proceeds would be used for general corporate purposes and clinical trials, to fit out an expanded leased research and development facility, acquisitions and for working capital.

Nabi Biopharma shares on Tuesday lost 15 cents, or 1.23%, to close at $12.02.

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