Convertibles lower on extended profit taking as new deals emerge

By Ronda Fears

Nashville, Tenn., Jan. 9 - Convertible traders said profit taking continued Wednesday, putting pressure on the market, as stocks failed to make a turnaround. It was a mixed bag, however, with several sharp gainers like Dupont Photomasks and some sharp losers like ImClone Systems, which saw yet another deep dive as the company acknowledged it may have run up against a big setback for its new cancer drug and that sparked stockholder suits.

Two more new deals emerged and although market sources still were not very enthusiastic about the new paper that has come out of the gates so far this year, the latest crop of new issues were higher. Even the Best Buy overnighter was higher in the gray market, although sources were not terribly excited about the terms. Traders said that many people were cashing in on less recent new issues that have already showed very nice gains, in order to buy new paper.

"If you think there's a chance that a new issue is going to pop right out of the gate, then you definitely want to buy it at issue," said a trader at a convertible fund in New York. "So, there was some selling, some profit taking on some of the new paper that has richened up quite a bit - Profit Recovery Group, Cephalon, Calpine. Of course, all those are plain vanilla converts. The zeros have not done so well lately."

Best Buy launched an overnighter after the closing bell as its stock shot up to a new 52-week high, but market sources said the convertible terms were not overly enticing at about 2.75% cheap to fair value. The new 20-year Rule144A convertible subordinated debentures are talked to price to yield 2.25% to 2.75% with a 33% to 37% initial conversion premium. Still, the issue was quoted 1.25 to 1.5 points above par in the gray market after the close.

"This is not so great, but there's so little of anything to buy out there - everything has richened up so much - that we're willing to buy this," said a convertible trader at a hedge fund in Connecticut, referring to the Best Buy new deal.

Best Buy unveiled the deal as its stock ran up on higher sales and a boost to the company's earnings guidance. The electronics retailer reported December sales of $3.86 billion, an increase of 43%, and a gain in comparable store sales of 6.2%. The company also upped its guidance for earnings per share for fiscal fourth quarter to $1.35 to $1.40, which would put the company on track for earnings growth of nearly 30% for the current fiscal year and ahead of the First Call consensus estimate for Best Buy's fourth-quarter earnings is $1.27 per share. Best Buy also said earnings growth is anticipated to be 18% to 21% in fiscal 2003 on increased market presence in the U.S., including new store openings in the coming year as well as benefits of remerchandising many of its Sam Goody stores and contributions from the Future Shop acquisition.

Best Buy shares closed up 40c to $75.16.

Axcelis Technology Inc. sold a deal intraday via Morgan Stanley and that paper gained out of the gate, although sources said it priced at about fair value. The $100 million of five-year convertible subordinated notes sold at par to yield 4.25% with a 34.7% initial conversion premium, at roughly the midpoint of guidance. In the immediate aftermarket, the new issue was 2.5 points higher at 102.5 bid, 103 offered with the underlying stock off 46c to $14.89.

"This was right at about fair value," said the trader at the convertible fund in New York, referring to the Axcelis deal. "But so many of the plain convertible bonds have done so well, people want to buy this as early as they can. And there was great downside protection with the big premium, so even though the terms were pretty aggressive, it's doing well."

Traders said the profits seen by investors flipping recently sold convertibles are enticing buyers for new deals. Some of the best examples of the price run-ups of late are Calpine's 4% convert due 2006, which sold at par on Dec. 19 and closed down 3.75 points on Wednesday to 112.625. There's also Cephalon's 2.5% convert due 2006, which sold at par on Dec. 6 and closed up 0.125 point to 110.875. Profit Recovery Group's 4.75% convert due 2007, which sold at par Nov. 20, closed off 1.75 points to 128.875.

Profit taking wasn't exclusive to the newest of the new issues. J.C. Penney's 5% convertible due 2008 saw selling in advance of the retail comp sales figures, which will be reported on Thursday, because it has gained significantly in the market's bull run early this year, traders said. The J.C. Penney convert, which sold at par in October, was down 2.75 points on Wednesday to 111.75 bid, 112.25 offered as the stock dropped $1.13 to $26.53.

While J.C. Penney was sinking in advance of anticipated lower comp sales, Genesco extended gains from the previous day when it reaffirmed 2002 guidance of $1.47 to $1.52 a share, with sales in the range of $744 million to $751 million. The 5.5% convertible due 2005 (B2/B-) added another 4 points to 117 bid, 118 offered with the stock up $1.25 to $22.60.

Overall, stocks began the session stronger, but fizzled as profit taking pushed the Nasdaq down 10.85, or 0.53%, to 2044.89 and the Dow industrials down 56.46, or 0.56%, to 10094.09.

Traders said there was general uneasiness about the upcoming earnings season, but there were some bright spots.

Dupont Photomasks, which makes plates used for printing circuit patterns on microchips, said it expects to break even in fiscal second quarter as it sees strong demand for its products and due to cost reductions. The First Call analyst consensus estimate was for a loss of 20c a share. The Dupont Photomasks zero-coupon convertible (AA-), which sold at par in July 2000, rose 2.75 points to 99.875 bid, 100.5 offered with the stock climbing $3.89 to $51.55.

On the flipside, ImClone's demise continued to worsen, as the company acknowledged Wednesday that it may have to redo all the trials on its proposed new cancer drug, Erbitux, which could delay the commerical launch by several months. ImClone securities, which have been steadily falling since the Food & Drug Administration denied its application on New Year's Eve, made another sharp dive Wednesday. The 5.5% convertible due 2005, which sold at par in February 2000 along with a slew of biotech converts, dropped 6.375 points to 88 bid, 89 offered, with the stock falling $5 to $31.85.

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