Theravance gains on hedge; Radian finds its footing; Smithfield jumps on potential split

By Rebecca Melvin

New York, March 8 - Several interesting stories continued to play out in the convertible bond market on Friday, but the overall market was flattish against a backdrop of what is beginning to seem like ever rising equities. The Dow Jones industrial average hit yet another all-time high following a strong February jobs report.

Theravance Inc.'s convertible bonds jumped outright and were seen up 0.5 point on a hedged basis for the week amid speculation that the San Francisco-based biotechnology company may be taken over following approval of its Breo respiratory drug.

Radian Group Inc. found its footing after a midweek pullback from stellar heights, with the new Radian convertibles still better on a dollar neutral, or hedged, basis from issue, at 113.5 bid, 114.5 offered versus an underlying share price of $9.53 on Friday. The new convertibles of the Philadelphia-based mortgage insurer had gone up to 120 earlier in the week.

Smithfield Foods Inc.'s convertibles jumped outright and were higher on a hedged basis on Friday as the underlying shares of the Smithfield, Va.-based pork producer hit a 52-week high on news that it is weighing the advice of a large shareholder to split the company into three groups and pay a dividend.

Of the week's three new deals, only the small $75 million issue of M/I Homes Inc. saw a strong upward move on an outright basis in first-day trading. The week's other two new deals didn't do as well, although MGIC Investment Corp.'s new convertibles expanded on a hedged basis.

Invesco Mortgage Capital Inc.'s new 5% convertibles dropped out of the gate and ended first-day trading at 98.

"IVR was a disaster," a New York-based trader said. He said the market didn't like the deal because the outsized dividend the company pays is higher than comparable companies.

In a historic week for equity markets, with indexes hitting multiple all-time highs, convertibles saw a little pressure from vol. coming in, although market sources said this wasn't a new trend, especially not in recent sessions.

"Vol. has been coming in for a while and there is not a crazy bid for vol.," a New York-based analyst said.

There were no broad themes to the week as market players continued to focus on specific names, he said.

"It was a pretty quiet Friday," he said.

A second source called the market "flattish," and he saw the week as up and down, mentioning that the new deals that came "didn't do that well."

In economic news, U.S. job growth improved in February and the unemployment rate fell to the lowest level in more than four years. Employers added 236,000 jobs last month, the Labor Department said Friday. The unemployment rate fell to 7.7% in February from 7.9%.

But January's payrolls were revised to a gain of only 119,000 from the originally reported 157,000 while December was revised up to a gain of 219,000 from the previously reported 196,000.

The downtick in the unemployment rate was accentuated by about 130,000 people dropping out of the labor force.

The improvements registered in the job market weren't seen affecting the Federal Reserve's accommodation policies. The Fed is targeting a 6.5% unemployment rate before allowing interest rates to rise.

In an effort to stimulate growth, the Fed has kept rates near zero for more than four years, and is currently purchasing $85 billion a month of Treasury and mortgage debt.

Theravance adds on hedge

Theravance's 2.125% convertibles due 2023 traded Friday at 113.686 versus an underlying share price of $24.88, according to a New York-based trader.

On Monday, the bonds had traded higher at 110.558 versus an underlying share price of $24.05 during the session.

Using a delta of 75%, the bonds expanded almost 0.5 point for the week, the trader said.

"This week it's up 0.5 point, and it's up 1.5 points in the last three weeks depending on you hedge," he said.

Given that vol. and in-the-money names have been weaker, market players are looking into more balanced names and among those Theravance is a bond of interest, he said.

Shares of the San Francisco-based biopharmaceutical company added 14 cents, or 0.6%, to $24.84 on Friday.

The Food and Drug Administration's Pulmonary-Allergy Drugs Advisory Committee postponed a March 7 review the company's Breo drug. But investors were putting a positive spin on that news, reasoning that it gave Theravance management more time to prepare from the grilling it is likely to receive from the panel, a trader said.

"Every analyst on the Street thinks" that approval of the Theravance drugs is going to lead to a take out by GlaxoSmithKline, the trader said.

Glaxo currently owns more than 25% of Theravance.

Radian still better on hedge

Radian's newer 2.25% convertible due 2019 were still seen improved on a dollar-neutral basis at 113.5 bid, 114.5 offered on Friday even though the bonds had retraced about 6 points from their post-issue high.

Radian's older 3% convertibles due 2017 were also better, seen at 113 bid, 114 offered at the close Friday.

The stock closed up 16 cents, or 1.7%, at $9.53.

"Radian is still doing well," a New York-based trader said.

The notable price action following pricing of the new issue was related primarily to moves in the underlying equity in reaction to the company's brighter prospects given its capital raise, an analyst said.

"This has been one of the more dicey spaces on the credit side for quite a while. When people realized the implications that capital raises had for this space and the fact that it gives them room to grow instead of being worried about whether they are going to go bankrupt, the credit came 'in' incredibly quickly," the analyst said.

"The act of raising capital is beneficial," he said.

Radian has always been the better quality credit in terms of its risk-to-capital ratio compared with MGIC Investment Corp., which is also a mortgage insurer that tapped the capital markets.

MGIC raised $1.3 billion in capital and had been a $1 billion market cap company, the analyst noted.

Also a factor in the pricing action of Radian and MGIC is the fact that there are a number of different types of investors who are doing different things in the cap structure, including crossover and distressed guys that are intimate with the space, and look at it like traditional outright investors, as well as arb, option and nontraditional accounts.

"There is an ability to trade the bonds, the credit default swaps, the options, and the stock borrow is better," the analyst said.

Smithfield adds on hedge

Smithfield's 4% convertibles due 2014 traded up to 115 bid, 116 offered versus the $25.79 stock close.

Shares of the Smithfield, Va.-based company rose $1.11, or 4.5%.

The bond is not overly attractive for hedged players because there are not enough upcoming events that will create enough volatility to make them interesting, but it still outperformed by about 0.5 point on a hedged basis, using a delta in the high 70% range.

"It's a short-dated vol. trade. And when the stock rallied four bucks in the last few days, it's good for the bonds," an analyst said, adding that it also depends on one's view on realized vol. in the next few months.

Sparking the move was a letter from Continental Grain Co., which holds a 5.8% stake in Smithfield. In the letter, the shareholder said the company should split into three units, hog production, fresh pork and packaged meats, and international operations. Continental also said it should start paying a dividend, add new directors to the board and hire an investment bank to evaluate the proposals.

Mentioned in this article:

Invesco Mortgage Capital Inc. NYSE: IVR

MGIC Investment Corp. NYSE: MTG

M/I Homes Inc. NYSE: MHO

Radian Group Inc. NYSE: RDN

Smithfield Foods Inc. NYSE: SFD

Theravance Inc. Nasdaq: THRX

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