Countrywide up after B of A deal, ResCap gyrates; primary quiet; funds see $380 million outflow

By Paul Deckelman and Paul A. Harris

New York, Aug. 23 - Bonds of mortgage-related names were seen higher - and prices for credit default swap hedging protection against a default in those bonds seen lower - as investors were apparently reassured by Bank of America's $2 billion investment in troubled mortgage lending giant Countrywide Financial Corp.

Beside Countrywide itself, this group also included Residential Capital Corp. and its corporate parent, GMAC LLC - the former General Motors Acceptance Corp. - and Thornburg Mortgage Inc. The ResCap bonds initially shot solidly upward, but then came off those peak levels, with some ending up 2 to 4 points, others gyrating around before ending essentially unchanged.

Apart from the financial names, which dominated most of the day's activity, Boston Scientific Corp.'s bonds pushed upward on the news that the company had prepaid $1 billion of debt.

Primary market activity was almost non-existent.

Funds see 11th straight outflow

As activity was winding down for the day, market participants familiar with the weekly high yield mutual fund flow numbers compiled by AMG Data Services of Arcata, Calif., told Prospect News that in the week ended Wednesday, $379.7 million more exited those weekly-reporting funds than came into them.

A source added that this is the 11th consecutive negative flow from the funds which report to AMG on a weekly basis.

Altogether those outflows now amount to more than $3.8 billion, and leave year to date flows among those funds mired deep in the red at negative $2.191 billion.

However the funds that report on a monthly basis to AMG have seen $4.454 billion of inflows year to date.

Hence the aggregate flows, which tally both the weekly and monthly reporting funds, also remained well in the black to Wednesday's close: $2.263 billion.

While numerically speaking, inflows have still been seen in 19 weeks out of the 34 since the start of the year, versus 15 weekly outflows, the momentum - which had seen $1.6 billion of cumulative inflows which had built up over the first half of the year, through early June - has now clearly moved into the negative column, more than erasing those early inflows. The inflows to date were relatively small in most of those weeks, while the recent outflows have been more sizable, some of them considerably so, as cautious investors pulled their money out of what were perceived to be risky asset classes that included high yield, heading for the relative safety of Treasuries.

The flow of money into and out of the junk bond funds is seen as a generally reliable market barometer of overall high yield market liquidity trends - although they only comprise 10% to 15% of the total monies floating around the high yield universe, far less than they used to - because there is no reporting mechanism to track the movements of other, larger sources of junk market cash, such as insurance companies, pension funds and, most recently, hedge funds.

Countrywide bonds, shares jump on BofA move

A trader said that from where he sat, "the financial names were the ones that were whipped around. That's where the volume was," propelled at least in part by short covering. Otherwise, he noted, "the afternoon was pretty slow."

Countrywide Financial's 6¼% subordinated notes due 2016 - nominally investment grade-rated at Standard & Poor's (BBB+) and Fitch Ratings (BBB-), and a junk-rated Ba2 at Moody's Investors Service - have recently been trading like full-fledged junk bonds, especially once the possibility that the largest U.S. mortgage lender could face possible bankruptcy began making the rounds.

But they were back in the lower 90s Thursday, far above their lows around 75 earlier in the week, given a big boost by the news of the BofA investment, which performed the dual function of acting as a vote of confidence in Countrywide by a major financial player, as well as putting $2 billion in Countrywide's cash drawer, alleviating the effects of the recent credit crunch on the company. BofA bought convertible debt that could give it about a 16% stake in the company if the conversion provisions are exercised.

A market source saw its 6¼% notes due 2016 jump above 92 bid from Wednesday's close around 85; the bonds then fluctuated in about a 3 or 4 point range below 92, in active trading, before finally coming to rest around 91 bid.

Another trader saw the bonds ending about 4½ points higher on the session.

The company's Countrywide Capital III trust preferred stock was being quoted at 88.5 bid, well up from recent levels in the mid-60s, although activity in that issue was quite limited.

Countrywide credit default swaps came way down - a sign of increased investor confidence in the company. A trader saw the credit swaps quoted at 212/222 basis points - well down from 311/321 bps on Wednesday. At one point earlier in the session, a market source saw the CDS bid price tighten by as much as 175 bps down to approximately 150 bps.

Countrywide's New York Stock Exchange-traded shares, after having initially pushed as high as $24.46, a 12% gain, fell back later in the day to end up just 20 cents (0.92%), at $22.02, on volume of 150 million shares, about six times the norm. The stock gave up its early gains as part of a generalized equity market pullback after the company's chairman and chief executive, Angelo R. Mozilo, warned during a CNBC interview that he believes the housing slump, marked by increasing delinquencies and foreclosures, will trigger a national recession

Despite the move upward in the bonds, some segments of the debt community remain skeptical about Countrywide's prospects; both Standard & Poor's and Moody's said Thursday that they still might downgrade its ratings, even with the Bank of America cash infusion.

Countrywide's bonds had been battered, and its CDS price had widened out substantially, after the company last week announced that it had accessed its entire $11.5 billion credit line to provide itself with liquidity when it was unable to borrow from the capital markets as part of the fallout from the subprime mortgage lending debacle - even though Countrywide itself is not a subprime lender. Lenders like Countrywide raise cash to fund their operations, especially the provision of new mortgages to customers, by reselling bundles of existing mortgages to investors on secondary markets - but when the subprime lending crisis hit, many of those usual investors battened down the hatches to ride out the storms and refused to buy any kind of mortgage-backed securities, leaving the lenders in the lurch.

The situation was exacerbated when a Merrill Lynch & Co. analyst suggested the company could be forced into bankruptcy. CEO Mozilo, during his interview, denounced such speculation as "baseless and irresponsible," and declared that "there is no more chance for bankruptcy today for Countrywide than there was six months ago, a year ago, two years ago, and when the stock was $45 a share."

ResCap roller coaster

Among the other financial names, a trader saw considerable activity in Residential Capital's 6 3/8% notes due 2010, which he said had opened "up 5 or 10 [points] the first thing this morning," and move up to 85 bid, 86 offered, before settling back down to around 79. He called the notes "very volatile - but it but doesn't look much different than yesterday."

He said the company's 6 1/8% notes due 2008 were doing the "same thing, a lot of volume. They were definitely on a wild ride." He saw them get as high as 92 bid, but then end the day at 84 bid, 85 offered, up 2 points on the day. The trade at 92, he said, was "very small," with most of the activity around an 85-88.5 context before the bonds ended around 85.

Another market source pegged the 6½% notes due 2013 at 78, up 4 points.

Yet another source saw the bonds actively traded, but said that while its 6 1/8s were up more than 6 points on the session at 88.5, its 6½% notes bounced around but ended the day exactly where they had begun at 75.75.

A trader saw "a lot" of ResCap parent GMAC's bonds trading, with the levels "a little better." He said the benchmark 8% notes due 2031 were up 1 point at 91 bid, 92 offered.

And he saw Thornburg Mortgage's 8% notes due 2013 "up a couple" of points at 83 bid, 84 offered, saying that a "decent size traded, on good volume."

Another trader also saw the bonds at 83 bid, 84 offered, calling them up 4 points on the day.

Boston Scientific up as debt is paid down

Apart from the volatile activity in the mortgage and other financial names, Boston Scientific's 5.45% notes due 2014 were seen up 2¼ points to 90.25, in active trading.

That followed the Natick, Mass.-based medical device company's announcement that it prepaid $1 billion of a term loan, while amending its $2 billion revolving line of credit and $5 billion term loan agreement.

It prepaid $1 billion of its term loan using $750 million in cash on hand and $250 million from a secured credit facility, resulting in a gross debt reduction of $750 million.

After the prepayment, Boston Scientific has almost $1 billion of cash on hand, as well as full access to its $2 billion undrawn revolving credit facility.

Indexes little moved

Otherwise, a trader said, "things were very slow and lethargic. Most things were unchanged. Nothing was new."

He saw the widely followed CDX index of junk performance unchanged at 95 5/8 95 7/8. The Bank of America Securities High Yield Broad Market Index rose 0.19%, bringing its year-to-date return to 0.59%. The KDP High Yield Daily Index was up 0.06 to 78.26, while its yield tightened 1 bp to 8.35%.

Improving prospects

However there was optimism to be found.

The high yield market spent a day in the sun on Thursday, with sources marking the broad market fractionally higher, but fading a little late in the day.

Phrases such as "light at the end of the tunnel" were heard.

A money manager from a mutual fund was upbeat about the Bank of America Corp.'s $2 billion purchase of preferred stock in troubled mortgage lender Countrywide Financial Corp. and noted that with its 7¼% dividend the preferred deal was an overall positive for the markets.

Another upbeat market observer made mention of an announcement from BNP Paribas that the three subprime securities funds that it suspended on Aug. 7, "following the sudden evaporation from 6 August of any trading activity on certain sectors of the US market," would resume valuation as well as subscriptions and redemptions late this month.

However one measure of market sentiment remained decidedly negative.

Late Thursday a source told Prospect News that AMG Data Services reported a $379.7 million outflow from high yield mutual funds for the week to Aug. 22.

That is the 11th consecutive outflow, the source added, noting that the combined total of those 11 outflows is north of $3.8 billion.

Meanwhile the primary market, as expected, produced no news on Thursday.

First Data loan

Instead of bond deals, some high yield primary market watchers commented on the First Data Corp. $14 billion term loan.

Prospect News learned from a market source that the retail bank meeting is expected to take place on Sept. 5.

On Thursday a hedge fund manager emailed to say that the bank loan accounts are saying the deal is being prepped "to come about 30 seconds after the Labor Day recess."

One mutual fund money manager said that the deal can likely get done, possibly at a mild-to-modest discount.

"There's enough money out there for a well-structured deal," the source said, "especially a deal away from the sectors that have been impacted by subprime mortgages."

Elsewhere, however, sources were less optimistic.

Two weeks from bottom

A money manager told Prospect News on Thursday that the high yield market has stabilized, and has actually been up over the past couple of weeks, having hit its low point a couple of weeks ago.

"The cash market is in pretty good shape," the source added.

"People have a little cash built up.

"On the funds side you are not seeing much in the way of forced liquidations."

The money manager added that the bottom for junk occurred before the Fed made a 50 basis points cut in its discount rate - a move roundly believed to have served as a major stimulus elsewhere in the capital markets.

"That's because the financial meltdown did not start with high yield," the investor said, adding that junk was only marginally affected, whereas subprime mortgages, structured products, hedge funds and the leveraged loan market were more impacted.

"High yield has gotten off relatively unscathed," the source commented.

Conceding that there has been an overall better tone throughout the capital markets since the Fed opened up the discount window, this investor sees a 50-50 chance that the Fed's Federal Open Markets Committee will cut the Fed Funds rate when it meets in September.

"It's too early to tell whether this meltdown in subprime, and some of the hedge funds and structured products, will slow down the real economy," the source said.

"Growth has decelerated, but that deceleration may not be picking up speed.

"It may take a few months to see how the higher mortgage rates are going to affect the real economy."

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