Market settles back into slow, holiday-like mode

By Ronda Fears

Nashville, Dec. 19 - In large part convertible players went back into hiding Thursday as the broader market staged a flight to quality.

The big excitement, so to speak, in convertibles was a sharp drop in Barnes & Noble Inc. after the book retailer cut its sales and earnings outlook due to weak holiday sales.

For the most part, convertible players don't really participate in the traditional flight-to-quality buying of Treasuries. Some of those who can hold Treasuries were buying, however, and taking other defensive measures.

One convertible hedge fund manager said he was buying the U.S. dollar, which has weakened against the British pound and euro over the last 10 days or so, to hedge some of the fund's European holdings.

That would be consistent with a dollar-neutral macro, said Venu Krishna, head of convertible research at Lehman Brothers.

If one thinks that the price of oil, which is holding above $30 a barrel, suggests the likelihood of a war in the Middle East, he said it would also make sense to be long Treasury futures.

"Today is quite slow," Krishna said.

"One would expect this so late in the year."

Convertible players are considering candidates for potential exchanges like Alkermes Inc. and Cell Therapeutics Inc. where the conversion price was restruck along with other changes in issue terms, which is expected to be a major theme next year.

"We think this will happen more and more," Krishna said, particularly given that around half of the convert market is busted.

"We've already seen quite a lot of buybacks and outright tenders."

Jeremy Howard, head of U.S. convertible research at Deutsche Bank Securities, Inc., agreed that more of the exchanges are anticipated.

He said Deutsche has been busy over the past two weeks trading biopharmaceutical converts, noting that the firm hired a specialty trader for that group.

"We have been quite busy," Howard said.

"Over the last couple of weeks we've seen trading with a view, rather than just trading investment-grade names around or something like that."

Traders mentioned Inhale Therapeutics Systems Inc., E*Trade Group Inc., Rite Aid Corp. and Affiliated Computer Services Inc. as moving to the positive side.

Affiliated Computer's 3.5% convertible due 2006 (BBB-) rose to 134.25 as the stock gained $1.20 to close at $50.10 on news the company won a $650 million contract from Motorola Inc.

To the negative, traders mentioned Advanced Micro Devices Inc., Carnival Corp., Corning Inc. and Barnes & Noble.

Barnes & Noble lowered its outlook due to lower than anticipated holiday sales already.

If current trends continue, the company said it expects comparable store sales in fiscal fourth quarter to be in the range of 0% to down 3%. That would push the EPS expectation to a range of $1.19 to $1.31 for fourth-quarter and $1.53 to $1.65 for the full year.

Barnes & Noble's 5.25% convertible due 2009 (B+) was quoted at 92.625 with the stock down $3.91 to close at $17.46.

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