AMR, Continental climb as oil eases; aQuantive issue goes to 102.375; Novell off on earnings

By Ronda Fears

Nashville, Aug. 20 - Airline convertible paper strengthened pretty much across the board Friday. Market sources said it was more of a fundamental value play, rather that the fact that oil prices eased, and AMR Corp. and Continental Airlines Corp. were particular focal points.

Delta Air Lines Inc. participated in the rally of airline paper to some extent, but traders said holders were in a quandary of sorts about whether there might be a more concrete restructuring plan, or at least an agreement with union pilots, ironed out over the weekend. Sellside traders pegged the Delta 8s up 1.5 points, but the 2.875s were unchanged at one shop while at another shop said they were quoted 3 points lower.

"There was a lot of debate about what's going to happen with Delta over the weekend," one sellside trader said. "Some people didn't want to be long; others were thinking they might hammer something out so they were willing to hold on."

After climbing to a fresh record of $49.40, crude futures ended the session lower as a possible resolution to the crisis at the Iraqi borders diminished fears about oil supply interruptions. September crude closed at $47.86 a barrel, down 84 cents for the session, but up $1.28, or 2.7 percent on the week.

Stocks rallied amid a more positive tone and convertible traders said there was more bidding action than had been seen for some time, but still flow was not overwhelming and there were notable exceptions.

Novell Inc. reported fiscal third-quarter profits versus losses a year ago, but the numbers missed analysts' expectations by a penny, so the stock was punished, a sellside trader commented. He said there was not a big selloff in the converts, though, as some people still think there's a possibility that the buzz about Sun Microsystems Inc. looking to take over the computer network company might come to pass.

Connetics Inc. was lower, too, bucking the strong upward trend in biotechs. A sellside trader attributed the drop to concern about getting Food and Drug Administration approval for one of its pending dermatology drugs, which is coming up for consideration in late September, plus growing concern about generic drug competition for existing drugs.

After another slow week of new deals - four, two of which were reoffered below par by underwriters - aQuantive Inc.'s small $70 million deal priced at 2.25%, up 47.5% - at the middle of yield talk for a 2.0% to 2.5% coupon and at the aggressive end of premium guidance of 42.5% to 47.5%. It shot up right out of the gate, a market source said, and closed at 102.375 bid, 102.875 offered.

Airlines see value buying

During the morning session, when oil had climbed past $49 a barrel and appeared to be heading toward $50, airline securities were on the rise, too. It wasn't so much a disregard for oil prices, but that prices on those securities had reached a level where value buyers came flocking in, market sources said. Traders said there also was a considerable amount of short covering in the airline names as options expired Friday.

AMR and Continental were highlighted, although several regional airlines like Jet Blue Airways Corp. and ExpressJet Holdings Inc. also gained, mostly because they are larger, more liquid issues.

AMR's 4.25% convertibles were pegged 4.5 points higher at 71 bid, 72 offered and the 4.5% converts gained 2.5 points to 65.5 bid, 66.5 offered. AMR stock rose 52 cents, or 6.24%, to $8.86.

Continental's 5% convertibles climbed 4.25 points to 75 bid, 76.5 offered, and the 4.5% issue added 1.75 points to 69 bid, 69.5 offered. Continental shares were up 49 cents, or 5.49%, to $9.42.

"Some people are coming to the realization that no matter how high oil goes, it's unlikely that the entire airline industry will file for bankruptcy," said a sellside analyst. "Some value investors are buying the issues, in other words."

A sellside trader said there was some bargain-hunting going on "because people are going to fly, no matter what." He said AMR is a popular pick because it is the strongest major carrier in terms of enough cash to weather the fuel cost scenario, even though it teetered on the brink of bankruptcy last year.

"Not only are businesspersons and vacationers going to fly, but the U.S. military depends upon private air carriers for its airlift capability, and we are in a bull market for war around the globe," said a convertible fund manager in New York. "Individual laggard airlines can go bankrupt, but the system as a whole must be protected, so the stronger carriers are better credits than they appear from a simplistic numerical perspective."

Delta convertibles bi-polar

Delta's convertibles were still a bit volatile, or "bi-polar, manic-depressive" as one buyside trader put it, on Friday as oil prices retreated and holders were left considering the Standard & Poor's downgrade to the credit on Thursday and debating whether any further developments would transpire over the weekend, particularly with regard to wage concession talks with union pilots.

"I think Delta is going to push pretty hard to get something done, at least with the pilots, by Monday," a trader said. "The deal needs to be done quickly in order to get debtholders to fall into line. People are afraid that a deal will be announced this weekend and this is their last opportunity."

The Delta 8% convertibles were quoted at a bulge bracket shop up 1.5 points at 37 bid, 38 offered and the 2.875% converts steady at 40 bid, 42 offered. At a smaller sellside shop, however, the 2.875s were quoted moving 3 points lower to 37 bid, 38 offered.

Delta's junk bonds were lower, with the 7.7s due 2005 down 3 points to 44.5 bid.

Delta shares gained 16 cents, or 3.94%, to $4.22.

"The common is totally absurd," said a sellside trader. "You can't borrow it, and idiots speculate."

Another trader noted, though, that, as with other airline stocks Friday, there was a good deal of short covering pushing the Delta shares higher. He added that with the backtrack in oil prices, Delta may not be in such a rush to iron out a deal with the pilots.

"There will be a lot more posturing by the company and [union pilots] before a deal is announced," the trader said. "We have a ways to go yet. I think there's still plenty of upside. Look at all the airlines today, good news on oil and gains across the board. There's more incentive for the pilots and company to hold any announcement."

After gaining in progress in the debt restructuring effort midweek, traders said bondholders were thinking that unless some radical development occurred, and soon, the company would still have to file bankruptcy to ultimately wrangle the restructuring that is needed.

Novell off 1 point on earnings

Novell turned the corner into a profit, but the results were still disappointing, which pressured the stock. Traders said the convertibles just lost about a point as some holders still think there might be something to the market buzz a few sessions back that Sun was looking to make a merger play for the computer networking company.

The Novell 0.55 convertible traded down to about 90.25, according to a buyside trader, but the issue closed out the day at 91 bid, 92 offered, off about a point from Thursday. Novell shares ended down 13 cents, or 2%, to $6.26.

Novell reported fiscal third-quarter net income of $23.2 million, or 6 cents per share, versus a net loss of $12 million, or 3 cents per share. Excluding effects of a legal judgment in the 2004 quarter, Novell said earnings were $14 million, or 4 cents per share, which missed analysts' projections by a penny. Revenues rose 8% to $305 million.

WR Hambrecht cut its estimates for Novell earnings, citing strong Linux growth but weak Netware business.

Its Linux business would be the lure for Sun to make a takeover play, and Sun executives have mentioned Novell in the context of Sun looking to make acquisitions.

"There are some holding onto the idea that Novell will be bought out soon," said a sellside trader. "It's not impossible, but it doesn't seem likely, at least not anytime soon."

A sellside analyst agreed, saying that Sun management has clarified that they are not talking to Novell about a merger.

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