Deutsche sees gamma frenzy for arbs, safe haven for outrights in converts with short put dates

By Ronda Fears

Nashville, Tenn., Feb. 12 - Tyco's recent troubles underscored the market's sensitivity to the hoard of convertibles with short-dated puts, but Deutsche Banc Alex. Brown convertible analysts said the situation has created a gamma frenzy among arbitrageurs and safe-haven opportunities for outright convertible investors.

"Since Jan. 14, the Tyco situation has focused investors' attention on the risks inherent in these puts, but there are excellent opportunities too, for both arbitrage and outright investors," said Deutsche convertible analysts Jeremy Howard and Jonathan Cohen in a report Tuesday.

Highlighted in the report were the Baxter International Inc.'s 1.25% due 2021, Neuberger Berman Inc.'s 0% due 2021, Medtronic, Inc.'s 1.25% due 2021, Masco Corp. 0% due 2031, Office Depot, Inc. 0% due 2007, XL Capital Ltd. #1 0% due May 2021, XL Capital #2 0% due September 2021 and the Starwood Hotels #1 0% due May 2021.

The analysts said all of the bonds are interesting for arbitrage funds but said the two XL convertibles are particularly interesting put trades in the current environment. For outright accounts, they said the most attractive are the Baxter 1.25% of 2021, the Medtronic 1.25% of 2021 and the Starwood #1 0% of 2021.

"We also believe that the Starwood #1 0% 2021 has the highest potential for a Comcast style adjustment of terms," the analysts said, referring to Comcast's addition of an extra put date to forestall the 2002 put.

"We also like these short-dated put positions because of the potential 'blow up scenario' in which the stock falls dramatically. This was the case recently with the Elan 0% 2018. On Jan. 30, the bond traded at 58.45, only 2.45 points above a bond floor of 56.0 (supported by a short dated put on Dec. 14, 2003, at 61.657), and a delta of 33.4%. On Feb. 7, the bond was at 48.5 with a delta of just 4.8% - with the stock having declined from $29.25 to $13.49."

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