Luminent slides; Countrywide rallies; CapitalSource stalls; Schering-Plough talk welcomed

By Evan Weinberger

New York, Aug. 7 - Luminent Mortgage Capital Inc. convertibles swooned Tuesday as the company announced the suspension of its dividend payments due to increased margin calls. Analysts were divided on whether the convertibles represented an opportunity or a steep risk.

Not all news in the financial and mortgage-lending sectors was bad, at least in the convertibles universe. Countrywide Financial Corp. convertibles continued their upward swing, although CapitalSource Inc. convertibles were unable to sustain momentum.

Talk started to swirl on Schering-Plough Corp.'s offering of $2.5 billion in mandatory convertible preferred stock, set to price Thursday night, and analysts and traders were upbeat on the issue.

To cap Tuesday, one new issue from Tata Steel of India priced, with an upsizing, and Nuance Communications, Inc. announced that it would be pricing a $150 million convertible issue Tuesday after market close.

The convertibles market was overshadowed by the swaying of the equity markets. Stocks started mixed early in the day as investors waited for the Federal Reserve interest rate announcement. As expected, the Fed left rates unchanged at 5.25% while saying that inflation remained the central bank's primary concern. But Fed policy makers did say in their short statement that they were aware of problems in the credit market, although they did not expect those problems to affect overall economic growth too seriously.

In the two hours after the announcement, the Dow Jones Industrial Average moved down about 100 points, then up about 100 points, before settling in at 13,504.30, a gain of 35.52 points, or 0.26%.

The Nasdaq was on a similar roller coaster and finished the day at 2,561.60, a gain of 14.27 points, or 0.56%.

Despite continuing concerns about credit, especially mortgages, convertibles buyers began to come out of their shells a bit, according to one analyst.

"I think the stuff is still pretty beaten up, particularly in the financials," he said. "But there are bids for things now."

Luminent convertibles sink

It seems that just about every day brings a new round of bad news from the mortgage or home building sector. And while mortgage lenders continue to announce the tightening of lending procedures, the big mover Tuesday was Luminent Mortgage Capital.

The day started with Luminent stock being battered, dropping as much as 85% of its value, as the company announced that because of increased margin calls, the company would suspend its dividend payments.

"Effectively, the secondary market for mortgage loans and mortgage-backed securities has seized up," the company said in a statement. "As a result, Luminent is simultaneously experiencing a significant increase in margin calls on its highest-quality assets and a decrease on the financing advance rates provided by its lenders."

The sell-off wasn't restricted to the company's stock, as its 8.125% convertible senior notes due 2027 began trading in the range of between 10 and 20, with one analyst seeing it as high as 25. The convertibles were issued at par on May 31, marking a stunning fall in under three months.

"I think people right now, besides panicking and not wanting to bid for this thing, I think for right now people are trying to figure out whether there's more than a short-term liquidity crunch," one analyst said.

The San Francisco-based mortgage-financing REIT released a statement late in the trading day Tuesday saying that quality, not subprime, mortgages made up the bulk of its portfolio and that it has experienced fewer delinquencies than prime mortgage lenders because of their stringent credit checks.

That didn't help the convertible much, however. The bonds finished in the 20s versus a closing stock price of $1.08.

The stock (NYSE: LUM) didn't improve much after Luminent's announcement, closing down $3.2999, or 75.34%, to $1.08.

But analysts and traders said that a general fear of mortgage lenders was clouding judgment on some companies, including Luminent.

"There's no way people can be valuing things correctly," one analyst said.

A trader said that he was confident that Luminent, because of its relatively solid mortgage portfolio, would be able to survive the immediate credit crunch and get more financial backing. Because of that, he said investors looking for a big upside should look closely at Luminent.

"I think they're going to have a grand slam," he said.

Not everyone was convinced, however. Another analyst said he couldn't see how Luminent could break out of its box.

"You'll never get out of them," the analyst said. "Just because it's 20 cents on the dollar doesn't make it a good bet. It's trading like it's already belly up, essentially."

Other financials active

After closing strong Monday, Countrywide Financial convertibles continued their upward trend on Tuesday.

The Libor plus 225 basis point convertible senior debentures due April 15, 2037 closed at 91.375 versus a closing stock price of $27.35. The convertibles had finished Monday at 90 versus $26.75 stock price.

The Libor plus 350 bps convertible senior debentures due May 15, 2037 also closed higher, at 90.125 versus a $27.35 stock price. The issue finished Monday at 89 versus a closing stock price of $26.75.

"The CFC have really traded up again, financials will be strong again," a trader said.

The Calabasas, Calif.-based mortgage lender saw its stock (NYSE: CFC) move up 60 cents, or 2.24%, to $27.35.

The rally came on news that Countrywide was taking over the mortgage lending operations of Atlanta-based HomeBanc Corp.

Moving in the other direction Tuesday were CapitalSource's 4% senior subordinated convertible notes due 2037, which closed the day at 91.0891 versus a closing stock price of $18.67. The notes closed Monday at 93.5439 versus a closing stock price of $19.19.

The Chevy Chase, Md.-based small business lender saw its stock slip 52 cents on Tuesday, or 2.71%.

Schering-Plough looks solid

Talk regarding Schering-Plough's mandatory convertible preferred stock set to price Thursday has received favorable reviews from analysts and traders.

The convertibles are talked at a dividend of 5.5% to 6% and a threshold appreciation range of 20% to 25%.

"Unless the market tone gets too ugly, I would normally expect a deal like this to go well," one analyst said. "It is coming along side a large common offering. That usually augers well for the convert. It means the underwriters will likely be supporting the stock in the after-market."

Last week, Schering-Plough, the Kenilworth, N.J.-based pharmaceuticals giant, announced that it was set to launch $2.5 billion in mandatory convertible preferred stock. The offering would come at the same time as the issue of 50 million shares of Schering-Plough common stock, all to finance the company's takeover of Organon BioSciences NV, another pharmaceuticals firm.

A trader had the convertibles modeled at a credit spread of 30 bps and a volatility pegged at 27.4. The trader saw the bonds being a solid option when they hit the street later in the week.

"I think this is a big enough name," the trader said. "I think it'll be received well."

Another trader said Schering-Plough had two factors going for it that are music to the ears of skittish investors.

"I will bet it will do well for the two simple reasons that it is a very strong credit and it has no subprime exposure; two things people want/need right now," he said.

Schering-Plough stock (NYSE: SGP) closed down 10 cents on Tuesday, or 0.35%, at $28.86.

Two new issues on the way

Tata Steel priced $725 million in 1% foreign currency convertible alternative reference securities (CARS) due Sept. 5, 2012. The CARS will yield 5.25% and have an initial conversion premium of 35%. The convertibles priced on Tuesday after market close and were upsized from an originally announced $650 million.

Yield came at the cheap end of talk, which had been 4.75% to 5.15%. The coupon and conversion premium were set Monday when the convertibles were announced. There is a further $150 million greenshoe. The CARS will mature on Sept. 5, 2012.

Tata Steel is a Mumbai, India-based steel producer and part of the Tata Group of companies. Tata Steel plans to use the proceeds for capital expenditures or international acquisitions, for lending to its subsidiaries and to finance expenditures for its acquisition of Corus Group plc.

One other new deal is on the way, with Nuance Communications announcing a planned $150 million in unsecured senior convertible debentures due 2027.

The Rule 144A transaction has a $30 million greenshoe.

The bonds are talked at a coupon of 2% to 2.5% and an initial conversion premium of 22.5% to 27.5%.

Nuance Communications is a speech and imaging technology company that produces dictation software among other products. It is based in Burlington, Mass. The company plans to use part of the proceeds for its previously announced acquisition of Tegic Communications plc.

That deal was scheduled to price on Tuesday after market close.

Nuance stock (Nasdaq: NUAN) lost 89 cents, or 5.3%, closing at $15.89 Tuesday.

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