Selling accelerates; GM sinks on default worries; Prudential, Advanced Medical Optics weaken

By Rebecca Melvin

New York, Oct. 9 - Expiry of the short-sale ban on financial stocks didn't help the convertibles market on Thursday but actually contributed to further selling, convertibles players said.

There were some who waited to sell until the short-sale ban expired, they said. But "if you waited, I don't think you were rewarded," a New York-based sellside trader said.

The selling pressure only worsened due to credit markets - particularly the leveraged loan market - being hurt by the nationalization of Iceland's banks and the deteriorating situation there, and intensified stock-market selling, another source said.

The downward spiral of General Motors Corp., and the fact that Standard & Poor's put the auto maker on credit watch negative in the last hour of trading was yet another factor that contributed to selling into weakness, they said.

Early in the session, it was debated whether the pace of selling may have been slowed with the expiry of the short-sale ban, but forced redemptions and funds unwilling to put on any new financial positions meant the opposite.

"...people still need cash. It could be that some waited to sell when the ban was lifted, and are now disappointed. Redemptions and worries that the SEC will do other arbitrary things leave new money sidelined. Some selling has slowed, but I see no real strength," a West Coast-based sellside trader said.

Meanwhile, stocks sold off intensely in heavy volume in the final hours of trading. The Dow Jones Industrial Average plunged 679 points, or 7%, to 8,579. That compares to the DJIA at 11,000 less than two weeks ago.

Players marveled at the selling of very short-dated, generally low-risk issues. For example, Prudential Financial Inc.'s floating-rate convertibles due 2036 are putable in 10 weeks. But the issue stood at 97ish earlier this week, and near the end of Thursday, it traded at 91.625.

"That's quite a substantial move for two-month paper," a New York-based sellsider said.

Advanced Medical Optics Inc. was another name that got crushed. Its convertibles fell 8 to 10 points, dollar neutral, as its shares plunged, after the eye-care products company lowered guidance, citing slowing sales.

GM tumbles on default fears

General Motors' 1.5% convertible senior debentures due 2009, known as the GRM issue, with a $25 par, closed at $14, which was down $2, or 12.5%.

"The GRM, which mature in June 2009, are trading at ridiculous yield to put of 74%," a New York-based sellside analyst said. "The market is pricing in a high probability of them defaulting before then. And these are senior rated bonds, not even just the preferreds."

GM's 6.25% convertibles due 2933 closed down 16% to $5.55, and the GM 5.25% convertibles due 2032, with its 10-year put, slumped 26% to $4.85.

GM shares fell 31% to $4.76 on the New York Stock Exchange, hitting levels not seen since the 1950s and taking its market capitalization down to $2.69 billion.

A year ago, the stock stood at a 52-week high of $43.20 on Oct. 12, 2007.

The GPM 6.25% bonds have a 35% yield to put, and the GBM 5.25% bonds have a 40% yield to put.

Both GM and Ford Motor Co. are in big trouble, but GM's troubles are viewed as more serious.

"Originally, before all the markets got really bad, the government was loaning money to the auto makers to invest in clean tech. If things weren't so bad, the Fed would give more loans. But I couldn't see them bailing out a random auto company now," the sellside analyst said.

One good thing about automakers versus the financials, however, the analyst noted, is that the automakers can file for bankruptcy protection under Chapter 11 and reorganize. That's unlike the financials that are essentially operations based on borrowing money. So when they go bankrupt, they're basically finished, he said.

S&P put the debt rating of Detroit-based GM on CreditWatch with negative implications, citing "the rapidly weakening state of most global automotive markets, along with capital market conditions that will remain a serious challenge for the foreseeable future."

The rating agency said it believes that GM has adequate liquidity for at least the rest of 2008 as measured by cash balances and available bank facilities, but the accelerating deterioration in industry fundamentals will be a serious challenge to liquidity during 2009.

Short-dated Prudential bonds slump

Prudential Financial's Libor minus 240 basis points convertible due 2036 slid to 91.625 on Thursday, while Prudential common stock fell 23% to $33.27.

On Wednesday, the convertibles were 97.75 versus a share price of $46.51. Prudential is a Newark, N.J.-based insurance company.

The convertibles are putable in December, which makes it a 50% annualized yield to put.

"It's awful because these are names you're getting paid on in weeks or a few months, but guys want the cash now," a New York-based sellside trader said.

The trader said that short-dated paper has been under the most pressure because it's the most liquid. "It's perversely inverse. Premium is generally paid for liquid paper. Now it's a penalty because it's the only way to raise cash positions," he said.

The first trade of the day was at 93.5 and that was in from 96.8.

"There are worries in the insurance space, with write downs. MetLife has been in the headlines and insurance names are under fire," a New York-based sellside trader said.

Prudential said Thursday that it expects its third-quarter profit to fall sharply, hurt by write downs and negative results from investments.

Charges include about $380 million reflecting costs for the company's individual annuity business, charges of $115 million related to investment results for its fixed-income and equity investment funds, and charges of $235 million relating to a previously announced settlement concerning the underwriting, sale and subsequent auction of certain auction-rate securities by subsidiaries of Wachovia Securities, with which Prudential has a securities brokerage joint venture.

Prudential also said it expects investment losses for the third quarter between $325 million and $375 million, including losses and impairments on holdings of securities issued by the now bankrupt Lehman Brothers Holdings Inc. as well as American International Group Inc. and Washington Mutual.

After-tax adjusted operating income for the quarter ended Sept. 30 are seen falling to between $275 million, or 67 cents per share, and $375 million, or 90 cents per share.

EYE bonds crushed

Advanced Medical Optics' 1.375% convertibles due 2025 fell to 59.5 versus a share price of $9.90 on Thursday.

Shares of the Santa Ana, Calif.-based eye medical device maker fell $3.79, or 28%.

The company cited a mix of weaker economies in both Europe and the United States for its reduced 2008 adjusted profit outlook.

The new guidance is between 70 cents to 80 cents per share on revenue between $1.17 billion and $1.20 billion. Previously, its outlook called for adjusted profit between $1.00 and $1.15 per share on revenue between $1.22 billion and $1.24 billion.

During the quarter, Excimer laser procedures fell by about 37% in the United States.

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