General Motors earnings drives rally; Amazon.com withstands profit drop; Mercury warms up; UAL mixed

By Kenneth Lim

Boston, July 26 - Earnings-driven news kept the convertible bond market active on Wednesday, with General Motors Corp. rallying to better than expected results.

Amazon.com Inc. retreated slightly, holding firm near its bond floor as the stock tumbled after the online retailer said its quarterly profit was cut by more than half.

Trading in Mercury Interactive Corp. picked up, but the company's convertibles were flat to slightly better outright as a takeover bid by Hewlett-Packard Co. boosted confidence in the company's credit quality.

Meanwhile, UAL Corp.'s newly issued 4.5% convertible due 2021 was flat to slightly better on its debut after receiving mixed reviews from the market.

The market in general was active, although interest focused on a handful of specific names, market sources said.

"The market has been pretty active the past couple of days, it's mostly reacting to news and people adjusting their deltas," a convertible bond trader said.

General Motors results fuels rally

General Motors' three convertibles rose in line with the stock on Wednesday after the auto maker reported better than expected results for its second quarter.

The company's 4.5% convertible due 2032 (NYSE: GXM) gained 0.32% or 0.08 point to close at 24.83 against the closing stock price $32. Versus the same stock price, the 5.25% convertible due 2032 (NYSE: GBM) improved 2.68% or 0.51 point to end at 19.55, while the 6.25% convertible due 2033 (NYSE: GPM) added 4.22% or 0.87 point to finish at 21.50. General Motors stock (NYSE: GM) increased 4.37% or $1.34 on Wednesday.

"That's probably the most active name today," a buyside convertible bond trader said.

General Motors said Wednesday that it had a second-quarter loss of $3.2 billion, weighed by charges the company took when it laid off employees as part of its turnaround efforts. Excluding one-time items, the Detroit-based company earned $1.2 billion, or $2.03 per share, surpassing the 55 cents per share Street estimate. The company also said it now hopes to reduce annual costs in North America by $9 billion, up from the previous $8 billion target.

The surprising improvement in General Motors' results raised hopes that the company, which lost $10.6 billion in 2005, was making progress with its turnaround efforts, the trader said.

"The GBMs, GPMs are all moving higher with GM credit getting better and the stock getting higher," the buysider said.

Amazon.com firm on floor

Amazon.com's 4.75% convertible due 2009 was lower by less than a quarter point outright on Wednesday, finding support on its yield despite a sharp drop in the common stock.

The convertible was seen trading at 96.25 at various times on Wednesday, even as Amazon.com stock (Nasdaq: AMZN) fell steadily by 21.82% or $7.33 to close at $26.26.

"It's callable, so it's not really moving with the shares," a sellside convertible bond trader said.

Seattle-based Amazon.com said late Tuesday that its quarterly net profit fell to $22 million, or five cents per share, from $52 million, or 12 cents per share, in the year-ago period. The online retailer expects operating income between $310 million and $440 million for the year, down from an earlier forecast of between $390 million and $520 million.

A Connecticut-based convertible bond trader said the convertibles held up well despite the beating that the stock took.

"It's a yield play, that's it," the trader said. "The bond floor is holding up now, which is good for the convert."

Mercury gets HP boost

Mercury Interactive's convertibles saw slight improvements after Hewlett-Packard's decision to buy the company gave the smaller company's credit profile a boost.

The company's 4.75% convertible due 2007 was marked at 100.375 bid on Tuesday against a stock price of $49.75, while the zero-coupon convertible due 2008 traded at about 105.625 against the same stock price. The zero-coupon convertible may be put in November.

Mercury stock (MERQ) closed at $49.75 on Wednesday, up by 27.56% or $10.75.

Hewlett-Packard said late Tuesday that it plans to buy Mercury for $4.5 billion in cash, or $52 per Mercury share. Mercury is a Mountain View, Calif.-based enterprise software company.

"I this is a really simply case...where it's a 5.88% yield-to-put cash surrogate," a sellside convertible bond analyst said of the zero-coupon security.

The previous bond floor on the zero-coupon convertible was just above 105.25, the analyst said. But with Hewlett-Packard's credit now supporting the convertible, the bond floor is now higher by about 30 basis points.

A buyside convertible bond trader said the convertible's modest gain was "not a huge move," but hedge investors who were short on the stock would probably have lost money.

"But most people probably were holding them outright," the trader said.

The trader was puzzled about why so many of the zero-coupon convertibles traded on Wednesday.

"The only reason you might buy them up here is if you hope that the [Hewlett-Packard] offer price is raised, or someone else comes and makes another offer," the trader said, adding that such a scenario was unlikely to occur.

UAL flattish on debut

United Airlines parent UAL Corp.'s new 4.5% convertible due 2021 had a slow debut, and hovered around par as the market seemed in two minds about the offering.

The convertible, which priced late Tuesday as part of a $726 million deal, changed hands at 100 versus a stock price of $27.35 on Wednesday. UAL stock (Nasdaq: UAUA) slipped 0.47% or 13 cents to close at $27.38.

The convertible, which was sold by UAL's employee unions, priced with an initial conversion premium of 25% over its two-day volume-weighted average price as of end-Tuesday.

"They look sort of OK, but it doesn't have any takeover protection," a sellside convertible analyst said.

Although the convertible may be put in a change of control, it does not have a make-whole feature and is subordinate to UAL's existing 5% convertible, the analyst said.

"So you do need a certain amount of cheapness," the analyst said.

Outright investors who were positive on UAL stock could find the new convertible a good way to get a position in the airline, partly because the liquidity that comes with the large size of the deal, the analyst added.

A buyside trader said hedge funds were unlikely to hold on to the convertibles for very long.

"It depends on the borrow assumption...and I don't think hedge funds will hold on too long if the borrow isn't going to get better," the trader said.

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