Convertibles players stunned by failed bailout vote; Wachovia, NatCity weaken; Smithfield active

By Rebecca Melvin

New York, Sept. 29 - The convertible bond market weakened sharply Monday along with other markets that were stunned by the U.S. House of Representatives' defeat of a government financial rescue plan on which hopes were pinned for healing of the ailing financial system and easing of stricken credit markets.

Earlier in the session, convertibles were mostly quiet awaiting the outcome of the vote and digesting news that the banking operations of Wachovia Corp. were being acquired by Citigroup Inc.

Sentiment was pretty poor before the vote: "No day is a good day any more," a New York-based sellsider said of the market. But with the failed financial rescue package, feelings seemingly plunged into despair, with the Dow Jones Industrial Average sinking more than 770 points, its biggest one-day drop.

"No bill passed!" declared the subject line of a New York-based sellsider's e-mail message. "To borrow a line from Prince - we're going to party like it's 1929," the message read.

Late in the session, several convertible sources were resigned. "We're going to have to unwind all the excesses, and now it's going to take two years of pain instead of 15 years," the same sellsider said.

"They can blame Wall Street, but it's the politicians that are to blame. But so what? This country needs to be shook up," he said.

A buysider was of the opinion that there would be another "bailout" of some sort, suggesting that the government, including the Federal Reserve and the Treasury, "have some more weapons that can be used to support the banking and financial system."

Questions remained though: like what would Citigroup do now that it had acquired the Wachovia assets with the assumption it could tap into a government fund aimed at sopping up the toxic mortgage debt afflicting bank balance sheets.

National City Corp. was a name that was pummeled on Monday.

Smithfield Foods Inc., which was riding high on the hog in August at well above par, traded Monday at 83.3, but that was better dollar neutral compared to a 16% drop in its underlying shares.

Overall, there were not many quotes and phones were quiet, convertible sellsiders said.

Wachovia weakens

Wachovia's 7.5% perpetual convertible preferreds ended at about 310, having traded earlier in the session at 400. On Friday, the preferreds were at 330, down from 600.

Shares of the Charlotte, N.C.-based commercial bank (NYSE: WB) remained halted pending information for most of the session, and then trading opened with the shares at barely more than $1 a share, compared to $10 a share on Friday.

The shares closed down nearly 82% at $1.84.

Citigroup is assuming about $30 billion of Wachovia debt plus the Trust preferreds, but Citigroup is not assuming the other preferred paper, including the convertible preferreds, sources said.

Wachovia will remain a going concern, with its AG Edwards assets representing real value, and players were weighing what the new entity's assets and liabilities would look like.

According to a note published by UBS Investment Research, Wachovia has $9 billion in preferreds and possibly up to $6 billion in subordinated debt not being assumed by Citi.

Citi is acquiring Wachovia's banking operations and senior/sub debt. UBS said the value of Wachovia's remaining operations including Wachovia Securities and asset management, which had $2.8 billion of economic capital and generates $1.4 billion in earnings, could be $10 billion, assuming seven times the P/E ratio, and $14 billion to $21 billion, assuming 10 to 15 times P/E.

The deal, facilitated by the Federal Deposit Insurance Corp., came as U.S. lawmakers were getting ready to vote on a $700 billion financial bailout package and as European banks showed signs of troubles. But the FDIC was careful to stress that Wachovia did not fail.

Under the transaction, which will create a retail bank with 9.8% of the U.S. deposit market, Citi will pay about $2.16 billion in stock for Wachovia, including its $53 billion in Wachovia debt. It will get more than $700 billion in banking assets and related liabilities. And it would assume just over $100 billion of Wachovia debt in total. In addition, Citi will raise $10 billion in equity and slash its dividend to 16 cents from 40 cents.

Citi will acquire more than $700 billion of assets of Wachovia's banking subsidiaries, and related liabilities. The FDIC has agreed to provide loss protection in connection with about $312 billion of mortgage-related and other Wachovia assets. Citi is responsible for the first $30 billion of losses on this portfolio, and expects to record these expected losses under purchase accounting upon closing of the transaction.

Citi is also responsible for the next $12 billion in losses up to a maximum of $4 billion per year for the next three years. Citi has also agreed to issue to the FDIC preferred stock and warrants with a combined value of about $12 billion. The FDIC has agreed to be responsible for any further losses on this portfolio.

There were positive aspects of this move, still it was hard to swallow that now that two of the largest deposit institutions in the United States, Wachovia and Washington Mutual Inc., largely now cease to exist.

NatCity drops again

National City's 4% notes due 2011 closed at 41 on Monday, compared to 50.5 on Friday and 69 on Thursday.

National City has been hit hard this year by high-risk mortgage loans and reported a $1.76 billion loss in July for the second quarter.

Smithfield holds despite lower shares

Smithfield Foods' 4% convertible senior notes due June 2013 traded early at 84 and were last at 83.3 despite a 16% fall in their underlying shares.

Shares of the largest U.S. pork producer, based in Smithfield, Va., (NYSE: SFD) fell $2.75 to $14.36.

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