Merrill sees convertible issuance up over 25% to $60-$70 billion in 2003

By Ronda Fears

Nashville, Jan. 8 - Merrill Lynch & Co. convertible analysts expect issuance to climb in 2003 by a little more than 25% to somewhere around $60 billion to $70 billion.

"2002's new issuance reinforced the fact that the convertible product is very viable and has its proper place among other asset classes," said Yaw Debrah, head of U.S. convertible research at Merrill in a report.

"New capital investment, locking in low interest rates and taking advantage of higher stock prices will lead to increased issuance in 2003."

Debrah expects new issuance to climb from Merrill's tally of $55.3 billion in new issues for 2002.

"Anxiety over the war with Iraq, anemic sales by retailers and overall holiday drowsiness caused the year to end on a dull note," he said, noting there were 124 deals that raised $55.3 billion in proceeds.

"While well behind the stellar issuance of 2001 in terms of number of deals and total proceeds, 2002's new issuance still reinforced the fact that the convertible product is very viable and has its proper place among other asset classes used for corporate financing."

Impetus for companies to issue convertibles, he said, should come from the need to expand capacity, to take advantage of rising stock prices, to refinance debt and to get better treatment from rating agencies. Also, they can get a lower interest rate on convertibles in a rising rate climate.

"In 2002, given the general over-capacity in the economy, the low-level rate of interest being carried on company balance sheets and the low level of stock prices, the major area of convertible issuance was due to companies refinancing maturing debt and to get greater equity credit on their balance sheets," Debrah said.

"Though there continues to be general over capacity in the economy, we expect that technological obsolescence will require increased capital investment and hence new issuance.

"Getting to the end of the year, if the economy improves and the prospects for a higher Fed Funds rate increases, look for companies to lock in the present low level of interest rates.

"As stocks move above present bargain basement levels, being able to issue convertibles at a 25%-30% premium to rising stock prices will be attractive."

Refinancing of maturing debt will continue in 2003, Debrah said, and he is looking for about $25 billion of redemptions in the convertible market for the year. That comes from his expectation that about $11 billion of convertibles will be taken out by maturing or getting called, about $10 billion getting put and $4 billion of out-of-the-money convertibles will be bought back by issuers.

But he expects no shrinkage of the convertible market in 2003, but thinks there should be net positive issuance of about $35 billion.

In 2002, he noted that despite a relatively high level of redemptions at $31.4 billion, net new issuance remained well in positive territory.

Demand is expected to remain high, as well.

"The convertible market enters 2003 nicely balanced in terms of value/growth, credit quality, market capitalization and sector diversification, which should appeal to investors in 2003," Debrah said.

"But convertibles have further appeal as an asset class by reducing risk in overall portfolios."

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