Convertibles weaken further; planned Red Hat mixed in gray market; new Trina adds on hedge

By Rebecca Melvin

New York, Oct. 1 – Convertibles started out the first day of the fourth quarter on Wednesday weaker again as has been the trend for several weeks.

Equities were also weak, with the Russell 2000 small-cap stock index dropping into correction territory, or down 10% from its record high in July.

The CBOE Volatility index, or VIX, was up, but curbed its session gain into the close.

“It’s still low,” a New York-based trader said of the VIX. “It’s not 11 or 12 anymore, but it ticked up only modestly,” he said of the VIX, which ended up at 16.65, which was a gain of 0.34 point on the day.

A trader said that the convertibles market has been so disconnected from the broader market gauges that he doesn’t watch them anymore. But as for how low the convert market can go, he said, “Our market was fully valued for a very long time. When you start bringing deals that are 0.5s up 27s and 1s up 40s, those things can contract very quickly,” the trader said.

On Wednesday, at-the-money, higher-premium-type names were seeing sellers step in, the trader said.

At-the-money refers to issues for which underlying shares are trading right around the price at which the bonds can be converted into shares.

Names like Yahoo! Inc., Citrix Systems Inc. and Salesforce.com Inc. were lower by 0.25 point to 0.75 point, the trader said.

“A lot of stuff was weak,” he said.

In the primary market, Red Hat Inc.’s deal for $700 million of five-year convertibles was mixed in the gray market ahead of final terms seen being fixed after the close.

They traded around issue price.

Trina Solar Ltd.’s new 4% convertibles due 2019 traded early Wednesday at 100.375 against weaker shares, but it was also seen at 100 bid after the solar power company priced $100 million of the senior notes at the cheap end of talk.

The new Trina deal closed around 100.5 bid, 101 offered, a syndicate source said, versus shares that were off 5%. He said the new convertibles expanded about a point on a hedged basis.

Trading activity in the convertibles market picked up in the afternoon.

Looking back at the last quarter, convertibles were weaker for some time amid a combination of factors including a stronger primary market, few large maturities and reverberations over rates and selling in the high-yield market, a convertibles trading source said.

“The market has been so weak. There were not a lot of bonds going away for the last two months and high yield was weak,” the trading source said.

“Nobody in risk arb has made any money, and they are going to have to be more aggressive in the last quarter,” he said.

According to the convertible arbitrage index of Hedge Fund Research, the strategy made 0.04% for September, but for the year to date, the strategy is down 0.42%, after being up 10.4% last year.

New Trina adds on hedge

Trina Solar’s new 4% convertibles traded last at 101.5 bid, 101 offered, a syndicate source said.

That was up a point or so on a dollar-neutral, or hedged, basis, he said.

Shares settled lower by 67 cents, or 5.6%, at $11.40. The shares had been down more than 7% intraday and had dropped 6% on Tuesday.

Meanwhile, Trina’s older 3.5% convertibles were quoted late at 96.5 bid, 97.5 offered.

Allocations of the new bond were “very heavy to the hedge funds,” a second syndicate source said.

The allocations were similar to those of the older Trina convertible, which was a $150 million issue priced in June, with a 3.5% coupon and a 30% premium.

The premium on the new deal was 25%.

The Raleigh, N.C.-based open-source software provider’s new deal was priced under Rule 144A at the cheap end of talk, which was for a 3.5% to 4% coupon and a 25% to 30% premium.

The deal has a $15 million greenshoe and was sold by joint bookrunners Deutsche Bank Securities Inc., Barclays and Credit Suisse Securities (USA) LLC.

Trina also priced a concurrent upsized offering of 10,333,785 American Depositary Shares, including 2,504,000 shares, which were sold in a primary offering, and 7,829,785 borrowed shares, which were loaned to affiliates of the underwriters of the notes.

The stock offering was upsized from about 7 million, of which about 5 million were to be borrowed shares.

The primary offering has a greenshoe for an additional 1,125,000 of shares.

The notes are non-callable for life. They have a put at year three. They have dividend and takeover protection.

Proceeds will be for general corporate purposes, which may include development of solar power projects, manufacturing capacity expansion and working capital.

Under the stock borrow facility, the company will lend 7,829,785 borrowed shares to the ADS borrowers, who will sell the borrowed shares under a separate prospectus. The offering price for 4,996,000 of the shares is $11.75 per share; the rest will be sold at market price.

Trina Solar is a Changzhou, China-based maker of solar-power products

Planned Red Hat flattish

The Red Hat deal was 99.5 to 100ish in the gray market ahead of final terms being fixed, a New York-based trader said.

At 100 bps credit spread and 25% vol., the deal looked a couple points rich, sources said. But it was still expected to do well. But a strong reception was still anticipated for the paper of the investment grade credit.

“Red Hat was right around issue in the gray,” the trader said.

The deal was talked at a 0% to 0.25% coupon and a 32.5% to 37.5% initial conversion premium.

The underwriters suggested valuation inputs including a credit spread of 100 basis points over Libor and 30% vol.

The joint bookrunners were Morgan Stanley & Co. LLC, BofA Merrill Lynch, Citigroup Global Markets Inc., J.P. Morgan Securities LLC, Barclays, Goldman Sachs & Co., RBC Capital Markets LLC and Wells Fargo Securities LLC.

The Rule 144A deal has a $105 million greenshoe.

The bonds are non-callable for life, with no puts. They have standard dividend and takeover protection. They will be settled in cash, stock or a combination of both.

Mentioned in this article:

Citrix Systems Inc. Nasdaq: CTRX

Red Hat Inc. NYSE: RHT

Salesforce.com Inc. NYSE: CRM

Trina Solar Ltd. NYSE: TSL

Yahoo! Inc. Nasdaq: YHOO

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