Junk hurt by sub-prime jitters; housing off, retailers too; Tembec slides on mill shutdown, FX fluctuations

By Paul Deckelman and Paul A. Harris

New York, July 10 - The junk bond market was seen lower pretty much across the board Tuesday, traders said, following the stock market down as the latter swooned on renewed investor concern about the problems of the U.S. subprime lending industry, and what kind of ripple effect it might have on other sectors of first, the housing industry, then, the economy in general.

Housing issues were particularly hard hit, as the collapse of the business of providing risky loans to marginal borrowers unable to keep up with their obligations was seen endangering the profits of such companies as D.R. Horton Inc., which issued a gloomy earnings forecast, as well as K. Hovnanian Enterprises and Beazer Homes USA.

Gaming companies such as MGM Mirage, Harrah's Entertainment and Trump Entertainment Resorts Inc. were seen lower - particularly MGM Mirage, whose bonds were seen off 3 points or more.

Tembec Inc.'s bonds slid, both on bad company-specific news about another temporary closure at a company facility, and in probable response to the recently strong Canadian dollar, which makes its products much more expensive abroad.

Sources roundabout the high yield market, from the buy-side and the sell-side, were marking it lower - most people said "lower with stocks" - on Tuesday.

One buy-side source noted a flight to quality, to Treasuries in particular, and added that pretty much everything in high yield ended lower on the session in terms of price.

The buy-sider marked the broad market ¾ to 1¼ points lower on the day.

Prospect News asked this source if the junk market is in correction.

"Absolutely," the buy-sider said, adding that certain credits (Realogy Corp. was mentioned) were 10 points to 15 points lower since early-to-mid June, while "on-the-run high yield credits, which have just started to come off in the past week or two," are 2 points to 3 points lower during that time-span.

Later a high yield syndicate official took issue with the buy-side source's measure of Tuesday's market, asserting that junk was ½ point lower on the day.

Primary activity was suffering from the summer doldrums on the hottest day in recent memory in the Northeast, with only one name making news - DAE Aviation (Standard Aero), which is expected to bring a $325 million bond issue to market.

Housing takes it on the chin

The problems of the subprime lending industry have been known to the financial markets for several months now - but were brought back into renewed focus Tuesday as Moody's Investors Service lowered the credit ratings over $5 billion of bonds backed by subprime mortgages - while Standard & Poor's said it may cut the ratings on as much as $12 billion of debt.

And - stung by criticism that they were behind the curve on the subprime meltdown - the agencies indicated that more downgrades could follow. S&P said it is also reviewing what it called the "global universe" of collateralized debt obligation structures that contain subprime mortgages. By some estimates, investors in CDOs alone stand to lose as much as $250 billion when the dust finally settles.

With many lenders now out of business after having written shaky loans to poor credit-risk borrowers who could not keep up with their obligations and who in many cases defaulted, and other lenders now taking a tougher, more skeptical look at mortgage applications as a result - homebuilders are a major casualty, since their sales will of necessity certainly go down.

That's the case with Fort Worth, Tex.-based D.R. Horton, the second-largest U.S. homebuilder, which warned investors Tuesday that it will report a third-quarter loss after orders plunged 40%.

The company furthermore cautioned that it sees no sign of a housing rebound.

Horton said in a statement that it expects the housing environment to remain "challenging," and said that it is planning a "significant" writedown in the value of its real estate, and the shares fell to a three-year low.

It further said that orders dropped in every region, with the steepest declines in California and the northeast, while the average price of its homes fell 12% to $233,672.

A trader said that from where he sat, most of the activity in homebuilders came in the credit default swaps market, where prices widened out substantially Tuesday - a sign that investors are more fearful of the possibility of a default.

He saw the D.R. Horton CDS spread widening out 23 basis points to 191-196 bps. Also wider was KB Homes, out 25 bps to 325-345 bps; Beazer, which had widened 35 bps to 585-605 bps., while Hovnanian's CDS widened out to 410 bps.

A trader at another desk saw Red Bank, N.J.-based Hovnanian's 8 7/8% notes due 2012 down 1½ points to 90.5 bid, 91.5 offered. The company's 6 3/8% notes due 2014 were seen down 1½ points at 84.

Builder's problems also hurt Tembec

The first trader also noted the downturn in Tembec's bonds, noting that "this is a builder-related bond," since a good chunk of the lumber the company sells every year goes into building U.S. homes.

He saw its 8 5/8% notes due 2009 drop to 56.75 bid from 59 previously, and also cited news that the company will be forced to shut its sawmill in Huntsville, Ont., for a week due to weak markets for the hardwoods produced there.

Another trader saw the Montreal-based forest products company's 8 5/8% notes due 2009 at 56 bid, 57 offered, down 4 points on the session, while its 8½% notes due 2011 and 7¾% notes due 2012 were each seen down 2 points on the session, at 48 bid, 50 offered and at 47 bid, 49 offered, respectively.

Another market source saw the 81/2s at 49, down 2 points.

The latest bad news for Tembec and downturn in its bonds came as Canada's dollar hovered just below its 30-year highs in the 95 U.S. cent range reached Friday in advance of Tuesday's policy meeting of the Bank of Canada, which, as expected, raised the country's key lending rate 25 basis points to 4½%. But the Canadian dollar came slightly off its highs when the central bank released a statement which economists felt toned down some of the anticipated hawkish language about the need for future rate hikes as an inflation-fighting measure.

However, with the loonie continuing to trade just under its highest peak level in 30 years, the impact of that powerful currency was being felt by the forest products companies like Tembec, whose sales outside of Canada, particularly to the United States, are curbed when the Canadian dollar strengthens too much and those exports become more expensive.

The trade industry group that includes Tembec, the Forest Products Association of Canada, issued a statement on Tuesday critical of the rate hike, which it said unfairly impacted the lumber and paper companies, and Canada's export industry specifically.

A trader saw Tembec sector peer Bowater Inc. - U.S. based, but with large operations in Canada - also lower, its 7.95% notes due 2011 off a point at 92.75 bid, 93.75 offered.

MGM Mirage leads gaming lower

Elsewhere, traders saw a big drop in MGM Mirage's bonds, although none had any information that could explain that retreat.

The Las Vegas-based gaming giant's 7½% notes due 2016 were down 3 points at 91.5 bid, 92.5 offered.

"I didn't see a ton of weakness in the sector," he said, acknowledging that most bonds were unchanged to down ½ point. "But everything in MGM was down 3 to 4 points. MGM seemed to be hit harder."

Another source saw the company's 6 5/8% notes due 2015 at 89 bid, down 3 points.

A trader meanwhile saw Harrah's 8¾% notes due 2017 down a point at 78 bid, 79 offered and Trump's 8½% notes due 2015 down 2 points at 93 bid, 94 offered.

Movie Gallery moves lower

Out of the distressed-debt markets, a trader saw Movie Gallery Inc.'s 11% notes due 2012 fall to 23 bid, 24 offered from prior levels around 24.5 bid, 25.5 offered. He had not seen any specific negative developments in the Dothan, Ala.-based Number-Two U.S. video rental chain operator.

Another source pegged the bonds down a point on the session at 24.5.

However, the bond retreat was in line with Tuesday's stock slide, which saw the company's Nasdaq-traded penny-stock shares fall about 8½ cents (13.63%) to just under 54 cents per share on volume of 4.9 million shares, more than triple the average daily turnover.

The stock retreat followed, and may have been related to, the news, contained in a Monday afternoon filing by Movie Gallery with the Securities and Exchange Commission, that one of the company's major shareholders, Schultze Master Fund Ltd, sold 1,554,788 of its shares, or about 14% of its stake, in three recent transactions, at prices ranging from 62 cents to 73 cents per share.

The filing said that Schultze still holds about 8.9 million shares in the company.

In the automotive arena, a trader saw Dura Automotive Systems Inc.'s 8 5/8% notes due 2012 - which had risen over the previous two sessions on news of an asset-sale by the bankrupt Rochester Hills, Mich.-based parts producer - as having dropped a point to 67 bid, 69 offered, while its 9% subordinated notes due 2009 were unchanged at 11 bid, 13 offered.

And Bally Total Fitness Holding Corp.'s 9 7/8% notes slated to come due later this year were seen down 2 points at 97 bid, 98 offered.

Another source called the bonds down 3 points at 96.

Nobody had any specific new information out on the troubled Chicago-based fitness club operator.

Quebecor for Wednesday

Some junk-watchers were expecting terms to emerge on Tuesday for Quebecor Media Inc.'s $750 million two-part offering of senior notes (confirmed B2/existing B).

However informed sources told Prospect News that Quebecor is expected to price on Wednesday.

The company is offering 8.5-year notes and 10.5-year notes.

No price talk had been heard as Prospect News went to press on Tuesday night.

However one source said that the 10.5-year notes are expected at 8½% to 8¾%, while the 8.5-year notes are talked 25 basis points inside of the 10.5-year paper.

One sell-sider not in the deal thought those levels "rich," given that the junk bond market is presently navigating some choppy waters.

However, in January 2006, with the market admittedly in better shape, Quebecor Media Inc. priced a $525 million issue of senior notes due March 2016 (B2/B) at par on to yield 7¾%.

Citigroup, Banc of America Securities and TD Securities are the joint bookrunners for the company's two-part offer now in the market.

DAE launches $325 million

The only other news to surface during Tuesday's ultra-quiet session concerned DAE Aviation Holdings Inc.

The Canada-based aviation services and repair company will begin a roadshow on Monday for its $325 million offering of eight-year senior unsecured notes (Caa2).

Barclays Capital and Lehman Brothers are joint bookrunners.

Proceeds will be used to help fund the acquisition by Dubai Aerospace Enterprises of Standard Aero Holdings Inc. and Piedmont/Hawthorne Holdings from the Carlyle Group.

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