Convertible issuance record of 2001 seen as benchmark, although 2002 will be strong

By Ronda Fears

Nashville, Tenn., Dec. 31 - Convertible market experts believe the astounding record issuance in 2001 of $112.00 billion, according to data collected by Prospect News, will be the benchmark for years to come. While most participants expect 2002 issuance to be strong, it is not likely to surpass the height of 2001 in the face of narrowing credit spreads and rebounding stocks.

Still, the upcoming year is expected to begin strong and remain so for the most part, barring any widespread withdrawal from the market by hedge funds that may retreat to rising stocks. More innovative structures, particularly focused on new tax spins like the contingent features provide to issuers, are seen continuing. But onlookers also expect the appetite for more traditional, vanilla convertibles to be met as well. Also, companies needing to restructure their balance sheets will drive a great deal of issuance.

"I think this year is going to be a high water mark that's going to be hard to surpass," said T. Anne Cox, head of global convertible research at Merrill Lynch & Co., the top convertible underwriter in 2001 and 2000.

"We're going to continue to see strong issuance in the convertible market, though. The volatility in stocks and speed of execution are very attractive to issuers. A lot of companies will need to do work on their balance sheets."

On the heels of three record-breaking years, however, few, if any, convertible market professionals expect another record. The New Year may begin so strongly that it appears to be on the road to a new record, however. Yet, as the Federal Reserve's bias changes from the easing stance it has taken the past 18 months or so - and it widely is expected to do so, eventually - issuance could cool off considerably.

"The growth has been phenomenal. Can we beat $100 billion? I don't think so with the interest rate environment and volatility coming in. Those are bearish to convertible issuance," said Jeffrey Siedel, head of convertible research at Credit Suisse First Boston.

"At the beginning of the year we will try to push out as much as possible before the Fed bias changes. I think it still remains strong. I think we could do $80 billion."

When the Fed changes its bias is the wildcard, Siedel said. Although many onlookers expect the Fed bias to shift during 2002, many also believe it may be preceded by one more rate cut in January. The longer it takes to shift, the better for the convertible market, however.

The creativity of investment bankers that produced new structures like CoCo converts, the industry jargon for convertibles with contingent conversion and contingent payment features, is expected to continue as a means to lure issuers, particularly high-grade names, into the convertible marketplace. Contingent convertibles themselves are also expected to remain fairly strong, but there will also be more plain vanilla convertibles, Siedel said.

"Techs will make another run to the convertible market, trying to recapitalize with convertibles," Siedel said. "You'll see plain vanilla converts from these companies in distressed mode. For companies trying to turn themselves around, I see great demand for plain, vanilla converts. But to get the Ciscos and Intels we'll have to have some structural advantage, an impetus to draw them in."

Cox also believes contingent convertibles will continue to be important to the market's growth, and also that issuance in 2002 will involve more traditional convertibles. In 2001, the issuance volume was made up of more than 50% in CoCo convertibles, many of which carried zero-coupons or were discount issues.

"There is huge pent up demand for outright convertible investors for more traditional, more classic converts. I think you'll see more of the Lucent, Xerox and Freeport Copper type deals. The CoCos will continue to be important but there's not as much demand for the CoCo product and issuers are not as keen as they had been. The puts got a hard test. We'll see a broader mix of new issues."

Dedicated convertible investors will indeed cheer more vanilla convertibles, as most of the participation in CoCo converts has been from the hedge fund community and CoCos have dominated issuance. Market sources estimate hedge fund account for upward of 70% or the convertible market investor profile.

Hedge fund participation would wane somewhat in 2002, however, should stocks get the pop many believe is coming. But not everyone thinks 2002 holds a widespread rebound in stocks.

"I don't see that there's any real earning strength. There's not a lot of pricing power out there. So I don't see stocks recovering much. I'm not overly optimistic on equity recovery," said Siedel. "It is real plausible, though, that if or when we see stocks come back that hedge funds start to see heavy redemptions" to pull the money out of convertibles to put it into the stock market.

End

© 2015 Prospect News.
All content on this website is protected by copyright law in the U.S. and elsewhere. For the use of the person downloading only.
Redistribution and copying are prohibited by law without written permission in advance from Prospect News.
Redistribution or copying includes e-mailing, printing multiple copies or any other form of reproduction.