Citigroup improves; Omnicare adds on buyout rumor; GM recoups for the week; Kemet gets a look

By Rebecca Melvin

New York, April 17 - Citigroup Inc.'s convertible preferreds improved slightly after early weakness after the New York banking giant reported better-than-expected earnings Friday but said it was delaying its long-awaited exchange offer until after its government stress test is completed.

Some had anticipated that the exchange offer, which was first announced in late February, would be launched on Friday along with its earnings report.

Omnicare Inc. convertibles gained in tandem with their underlying shares on speculation that the geriatric pharmaceutical concern may be taken over.

General Motors Corp. convertibles bounced back Friday after dropping earlier in the week on the expectation that bankruptcy is in the cards for the Detroit-based automaker. The convertibles moved up even as its shares slipped on Friday.

Both the new and old Micron Technology Inc. convertibles have been firmer in trade in recent sessions. And players are looking over other distressed paper, with the convertibles of Kemet Corp., Penske Automotive Group Inc., and Beazer Homes USA Inc. finding buyers.

Overall, however, the market was described as quiet Friday, but recent strength is sticking.

Prices have been creeping up, and "we didn't give anything back yet today," a New York-based sellsider said near the close.

Citigroup in trade

Citigroup's delay poses risk especially to investors who bought preferred shares and sold short common stock.

The Citigroup 6.5% convertible preferreds were indicated to close at 34. Citigroup's common stock settled down 36 cents, or 9%, at $3.65.

Citi said on an analysts' call early Friday that it would put off the conversion until after the stress tests that the government is conducting on the largest U.S. banks. Delaying a move, which was supposed to be undertaken on an emergency basis to bolster the bank's financial ratios, raised questions about what the tests would reveal.

Others were concerned that the terms of the exchange would be altered to reflect a positive or negative outcome.

A Barclays Capital convertibles research analyst reiterated Friday what the group wrote in a note published Thursday: that the exchange terms weren't expected to be amended since the government might be reluctant to change the consideration for the TARP preferreds that it owns.

On Friday, Citigroup chief financial officer Edward Kelly said he doesn't expect the stress test results to change the outcome.

"They don't expect to change the terms, but the timing was pushed a little. Spreads however have blown out making it an attractive value play," the analyst said. "For the risk arb guys however the outcome isn't good if you were long the preferreds and shorted the stock because the stock ran up."

Friday was "definitely a decent size volume day with a million shares trading. By day's end they improved slightly," a New York-based sellside trader said.

"The Citi preferred play rests on the stock staying at a price that rewards you when this finally occurs. It's simply impossible to borrow," a New York-based sellside trader said.

Barclays recommends Citi preferreds

The potential upside for outright investors has grown. At current prices, the 6.5% Citigroup convertible preferreds imply an upside of almost 48% to parity based on the terms of the exchange offer announced in February, according to a Barclays Capital research note.

"We acknowledge it increases the probability of the original terms being amended, either in the form of a higher conversion price, a larger haircut, or a decrease in the size of the offer," the analysts said of the spread increase.

On Tuesday, the spread reached its widest since the offer was announced. The initial jump in the discount for the preferreds was driven almost entirely by the surge in the cost of borrow. The move this week has been more due to the transaction spread, the Barclays analysts said.

"We estimate the transaction spread currently priced in is 20% versus 5% a week ago," they said.

Value investors should consider buying Citi preferreds to capture the 48% upside in the scenario that the deal goes through with the original terms; while holders of the common can lock in the very high borrow rates by either lending stock out or using reverse conversions to swap into the synthetic forward. This essentially involves buying a call and selling a put while selling stock, according to the report.

Omnicare adds on buyout rumor

Omnicare's 3.25% convertibles due 2035 traded at 73 versus a share price of $27.00, according to a New York-based sellside desk analyst.

The Omnicare 4% preferreds due 2033 were indicated to close at 37 compared to 34.7 previously.

Shares of the Covington, Ky.-based geriatric pharmaceutical services company jumped $2.12, or 8%, to $27.50.

The convertible bonds have takeover protection that has upside potential in the event of a buyout.

GM recoups

General Motors' three main series of convertibles pulled up at the end of the week, after trading markedly lower after reports said the company could face pressure by the government to prepare for a potential bankruptcy later in the year.

The GM 5.25% convertible due 2032, or the GBM paper, settled up nearly 2% on Friday to 2.15, after trading down to 2 on Monday.

The GM 6.25% convertible due 2033, or the GPM paper, gained 6% to 2.24 after losing ½ point on Monday to 2.

The GM 4.5% convertibles due 2032, or the GRM paper, jumped almost 10% Friday to settle at 7. Meanwhile shares of the Detroit-based automaker moved lower on Friday, down 8 cents, or 4%, to $0.86.

The New York Times reported a week ago that the U.S. government wants the automaker to prepare for a potential bankruptcy filing by the middle of the year. The company has said it prefers to avoid a bankruptcy petition.

The bankruptcy speculation was the main weight that dragged the convertibles down on Monday, a desk analyst said.

Kemet, Beazer get a look

Kemet's 2.25% convertible due 2026 were trading at 18, which is up from about 10 in the recent past, according to a West Coast-based sellsider.

With the stock at 45 cents and its tangible book value, that's a yield to put of 86.5%, the sellsider said.

"People are starting to look down the curve and consider these names that haven't moved up yet. The assets here are worth quite a bit," the sellsider said.

Simpsonville, S.C.-based Kemet makes tantalum, multilayer ceramic, film, and other parts for electronics original equipment manufacturers.

Beazer Homes' 4.625% convertibles due 2024 were higher too on buyer interest, a New York-based sellsider said.

The paper had been in the high 20s, but a buyer came in late yesterday and it printed at 29.5; and on Friday, the 4.625s were at 33.5, the sellsider said.

Beazer shares gained 13 cents, or 8%, to settle at $1.71.

Based in Atlanta, Beazer is a developer of single and multi-family homes.

Mentioned in this article:

Citigroup Inc. NYSE: C

Beazer Homes USA Inc. NYSE: BZH

General Motors Corp. NYSE: GM

Kemet Corp. OTC: KEME

Omnicare Inc. NYSE: OCR

Penske Automotive Group Inc. NYSE: PAG

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