More WorldCom volatility as S&P completes consignment to junk; primary mulls fund outflow

By Paul Deckelman and Paul A. Harris

New York, May 10 - WorldCom Inc. bonds continued to swing wildly between their day's peaks and valleys Friday, as the troubled telecommunications giant lost its last feeble toehold on high-grade respectability when Standard & Poor's finished knocking its ratings off their investment-grade pedestal and down into Junkbondland.

Primary market activity was muted, as players contemplated whether the small decline in weekly high-yield mutual fund flows - the first such drop after 11 straight weeks of inflows stretching back to mid-February, including nearly $1 billion over the previous three weeks - is merely a fluke, or whether it signals that the liquidity party may be over, with money perhaps poised to leach into other investment vehicles.

In secondary dealings, WorldCom continued to dominate the attentions of junk marketeers, just as it had all week. The bonds had gyrated around on Thursday - when hopes that WorldCom might be able to address its short-term liquidity concerns by lining up new bank financing gave way to the reality of its deteriorating financial situation, as both Moody's Investors Service and Fitch Ratings downgraded the formerly high-flying credit to junk status.

In a conference call late in the day Thursday WorldCom tried to reassure investors and analysts that its liquidity problems were under control and that the Moody's downgrade would not trigger a forced immediate repayment of some $2 billion of accounts receivable securitizations because its lenders had given the company a temporary waiver.

But even as the bonds began trading at fairly decent levels, considering, on Friday, many in the market were waiting for the other shoe to drop in the form of an S&P downgrade to match the Moody's move. And sure enough, that other shoe dropped late in the afternoon, as the ratings agency sliced its assessment on WorldCom's long-term debt three notches, to BB from BBB previously.

"The significant deterioration in the company's financial condition has resulted from a continued weakening of WorldCom's business position, which in turn will limit the company's ability to reduce debt leverage," S&P credit analyst Richard Siderman said in the downgrade announcement. The downgrade and CreditWatch listing - the company's ratings remain under scrutiny for a possible further downgrade - "also reflect concerns regarding liquidity beyond the near term."

WorldCom took center stage Friday, a trader said, and "everything else was off to the side."

He noted that when the session opened, some of the major investment houses which had presumably been on Thursday's conference call "had positive comments, talking about the possible new bank facility and the ratings downgrade trigger waiver," and that gave WorldCom some initial lift, particularly on the short end of the curve.

He quoted its 7 7/8% notes due 2003 at 85 bid/87 offered and its 7 3/8% of 03s at 91 bid/93 offered.

But after that solid start, it was all downhill from there. "You had the positive research on the one hand and decent news, but it seems like all of the investment-grade guys who still owned it and had to sell it [in the wake of the Moody's downgrade] took the opportunity to sell it," he noted. "Bids got hit, and the long end started to fall out of bed first, and then finally, the short paper began to fall." The 7 7/8% notes dropped to 83 bid/85 offered, while the 7 3/8% notes retreated to 88 bid/90 offered.

"Except for them announcing that they were going to close on the bank debt [at some future time], a lot of the good news for WorldCom is pretty much out of the way, so you had that little pop on the conference call, and it moved up a little [initially Friday] - and then the bids just started getting pounded, and that's how we ended out," the trader continued. "So I don't see a whole lot of good news from now until whenever they announce the actual closing of the bank facility - maybe some asset sales or something, but we'll just have to see how it goes."

WorldCom "really rallied [Friday] morning, based on the conference call," another trader opined, quoting its 6¼% notes due 2003 opening at 82.5 bid/83.5 offered, before dropping as low as 78 bid during the session and ending bid in the 78-80 area. Likewise, the company's benchmark 7½% notes due 2011 opened at 47.5 bid/48.5 offered, before falling to the 44 bid/45 offered area. Its 6.40% notes due 2005 tumbled to a closing level of 52 bid/53 offered from 57 bid/58 offered initially, pushed down, he agreed, by likely selling by investment-grade portfolios which are either prohibited from owning any split-rated paper, or which anticipated the concluding downgrade to junk status late in the day by S&P.

Elsewhere, Trump Atlantic City Associates' 11¼% first mortgage notes due 2006 "got beaten down" to close around 77 bid/79 offered, the trader said, well down from its recent levels around 81.5 bid/82.5 offered. The bonds' retreat followed by a day news that the Atlantic City, N.J.-based hotel and casino operator was retooling its planned $470 million debt offering, splitting it into two tranches, one offering considerably fatter yields than the originally planned issue - a sign that potential investors were playing hardball with the company, forcing it to sweeten the offer to get it priced.

There meantime was no movement seen on the other two issues of Trump debt, which are to be taken out with the proceeds of the new deal, the 11¾% notes of Trump's Castle and the parent holding company bonds.

US Airways said it will seek government loan guarantees following huge losses since the Sept. 11 terrorist attacks. The troubled air carrier also warned that it consider a bankruptcy filing if it cannot reach agreement with its employees, suppliers and lenders to cut costs.

Almost all of the company's debt is in the form of bonds secured by the company's aircraft and other tangible assets, a trader said, and he pointed out that they contain a covenant known as Section 1110 which allows creditors to seize the aircraft, even in the event of a bankruptcy filing.

He said, however, that the company's warning fell largely on deaf ears. "It's beautiful out. I would suggest that a lot of people were on the golf course [Friday]. By the time this was widely disseminated, the bonds were quoted down several points, but there was no real trading."

He suggested, however, that "if you utter the 'B' word (bankruptcy), you're going to impact the psyche of this market, as it has already impacted the behavior of the equity market."

The lingering problems of the airlines - between the post-Sept. 11 effects, the impact a softer economy would have on business and leisure travel and the specter of possibly higher fuel prices - are compounded, he noted, by efforts afoot in Congress to strike the whole federal loan guarantee program for the airline industry. Let that movement begin to make headway, and it would impact a number of carriers, including US Air but also including the mighty United Airlines, the nation's No. 2 air carrier. "Given UAL's reach, that would have a profound impact,' he cautioned.

US Air's 10 3/8% secured bonds have recently been trading in the low-to-mid 60s, with its other aircraft-backed bonds, like the 9 5/8% bonds due 2003 trading at different levels based on their coupons and maturities. The trader said there was not much movement in those bonds, or those of competing air carriers such as United, Continental Airlines or Northwest Airlines by the time the news was disseminated on Friday. But he projected that the market might see some sector response to USAir's warning come Monday.

Meanwhile, as the week of May 6 came to a close Friday, the high-yield market was not spared a dip in the uncertain waters through which the capital markets are presently sailing.

The morning began with news that according to AMG Data Services the string of 11 successive inflows was broken: an even $22 million flowed out of high-yield mutual funds during the week that ended May 8.

"It's not anything," an official from an investment bank commented. "Look, we've had a great run in terms of the funds flow for quite a while. It's not surprising that there would be a little rotation out.

"What's more surprising is that so much money came in, for so long."

(Merrill Lynch's chief high yield strategist Martin R. Fridson stated in a May 6 report titled "Supply/Demand Gap at Record Levels" that for the first four months of 2002 weekly average inflows to high-yield mutual funds ran at a higher rate than any year since AMG Data Services began reporting flows in 1992, with the numbers adjusted for the total size of all high-yield mutual funds).

One need not look all that closely around the capital markets, this official added, to come to the conclusion that high yield is certainly not the worst place to be at present.

"It's really tough to find a reason to buy the equity market right now," the sell-side source said. "There's so much uncertainty out there. You've got situations in the world that could lead to World War III. You really have to have a brass set to step up to the plate on something like that.

"With high yield you've got the downside protection of a bond. You've got performance potential to get some pretty darn good returns. And especially if the economy recovers, credit-sensitive securities will do quite well.

"Finally, I think the view is we're working through the cycle of all the bad deals done in the frothy days of '97. Many deals are being structured a little more conservatively these days; the leverage ratios are a lot lower than they were in the heyday five years ago. All that makes for a pretty positive investing environment."

The conversation with this source took place a couple of hours before the market learned that Standard & Poor's, as Moody's had done Thursday, cast the debt of WorldCom into the universe of speculative-grade credits. This sell-sider said that, while in terms of sheer supply the presence of formerly investment-grade paper entering high yield-land could scarcely be ignored, it is for a specialized class of investors and thus it will not meaningfully compete with any new business coming into the primary market.

"You can't ignore it, there's so much of it falling into the market," the official said.

"With lots of cash in the market and a modest new issue calendar attention will be turned to other deals in the secondary, particularly the fallen angels, to put money to work. But are they crowding out new issues? I don't see that happening.

"If you're going to come out with a new issue in the double-B category that's perceived as a high credit in high yield-land. Whereas if you're going to catch a double-B WorldCom, that's a different situation. Who knows which way the banks are going to go? They're probably going to go 'secured.' What does that mean if you're in the unsecured bonds? What's that mean for price-performance going up?

"Levels have gotten very tight in high yield," the official conceded. "But I think that buying into a stressed situation is a very specialized-type of investment. I suppose you can't ignore it but with a lot of the higher profile fallen angel situations there's just so much uncertainty."

Reiterating that an outflow of $22 million is negligible, the source said: "With all the money that has flowed in I'm surprised there's not more activity out there right now. But I believe you'll see a steady flow of deals going forward."

The dearth of activity to which the official alluded is certainly in evidence as one tallies primary market business for the week of May 6.

Had it not been for Western Resources, which priced $765 million in two tranches, one of them split-rated, on May 7, the week of May 6 might have appeared comparatively weak in the high yield primary market. The other two offerings were $200 million from Giant Industries, Inc. and a $200 million add-on from Sun International Hotels, Ltd.

One deal, Wise Alloys' $150 million offering, was postponed. The company's CEO told Prospect News on Friday that the company had come to the market with a lower interest rate and a smaller-sized deal in mind and that investors were unreceptive to the distinctions that the company attempted to draw between itself and the troubled aluminum industry (see related story in today's newsletter).

And one deal that was originally anticipated to price during the week of May 6, Trump Casino Holdings, LLC and Trump Casino Funding, Inc.'s $470 million was reported late in Friday's session as expected to price on Monday. The deal was restructured Thursday, carving out a $130 million second mortgage tranche and leaving $340 million of first mortgage notes.

Opinions among buy-siders and sell-siders on the new Trump deal were not in short supply. Some said the deal would not get done while others, especially in the wake of last Thursday's restructuring, maintained that it had been custom-fitted to receptive investors, large and small, and that its execution was a foregone conclusion.

In addition to Trump, the forward calendar contains an even handful of deals that are expected to price during the week of May 13.

--John Q. Hammons Hotels' $500 million of 10-year first mortgage notes (B2/B) via Lehman Brothers;

--JSC Tyumen Oil's $300 million-plus of five-year eurobonds (Ba3/B+/B+) via joint bookrunners Credit Suisse First Boston and Salomon Smith Barney;

--Cole National Group, Inc.'s $150 million of 10-year senior subordinated notes (B2/B) via joint bookrunners Lehman Brothers and CIBC World Markets;

--D&E Communications, Inc.'s $175 million of 10-year senior notes (B2) via Jefferies & Co.; and

--Earle M. Jorgensen Co., Inc.'s $250 million of 10-year senior secured notes (B-) via joint bookrunners Credit Suisse First Boston and Deutsche Bank Securities.

Tallied up, the half dozen of deals expected to price during the week of May 13 comes to $1.845 billion of business.

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