Investor activism boosts shares, creates pain for bondholders

Fri Feb 1, 2013 11:37am EST

NEW YORK, Feb 1 (IFR) - A flurry of activity by activist investors seeking to improve shareholder returns at some major US companies has cast a shadow on corporate bond markets already spooked by rising Treasury yields.

Activists, including Carl Icahn and some high-profile hedge funds, are clamoring for change from the management of Transocean, Hess Corp And Nabors Industries among others, sending share prices soaring but battering bonds.

Strategists say the demands for change reflect confidence in the economic recovery and optimism that companies have got through the 2007-2008 crisis and can now resume investing for growth. But bondholders should brace for a bumpy ride.

"Companies need to be challenged and regularly prodded to revamp products, strategies, and sometimes even management, so that they continue to deliver value to their shareholders," said Edward Marrinan, head of macro credit strategy at RBS Securities.

"The rise in investor activism is a sign of the corporate sector's gradual reemergence of confidence in the global economy. These actions are likely just the start of a trend of shareholder assertiveness which will gain momentum as the year unfolds," he said.

The burst of activity comes as investors, weary of the central-bank fuelled low-rate environment, are taking on more risk and allocating capital back into the equity markets and structured products. Some are now pushing to ensure their risk-taking is supported by management boards with strategies that generate shareholder value.

"Many of these companies' share prices are underperforming because managements were more focused on surviving the crisis of 2008-2009. But now as we move beyond the crisis, shareholders are demanding that companies become less inward focused and take steps to maximize their returns," said Marrinan.

CLAMORING FOR CHANGE

Icahn last week urged the board of offshore driller Transocean to return capital to shareholders by declaring a dividend of at least US$4 per share at the company's next annual meeting. Icahn came up with the demand after disclosing a 5.61% active stake in an amended 13-D filing released Friday after the market close.

The news sent shares of Transocean up 3% in after-market trading, but bond spreads have widened sharply on the news.

Transocean 3.8% 2022s are 15 basis points wider on the week at Treasuries plus 193bp and the 6.8% 2038s are 36bp wider at 254bp over Treasuries. Five-year credit default swaps have widened by 28bp to 173bp-181bp.

On Tuesday, hedge fund Elliot Management Corp released a letter detailing proposals that included breaking up oil and gas company Hess to enhance shareholder returns. Elliott, which holds 4% of Hess, said it believed Hess was undervalued due to the company's "unfocused portfolio and poor management."

"The undervalued stock is a result of a failure of corporate governance," said John Pike, senior portfolio manager at Elliot Management Corp.

The stock soared 9% on the day after the letter was published. But Hess 5.6% 2041s are trading 58bp wider on the week at Treasuries plus 202bp. The company's 8.125% 2019s are 57bp wider at Treasuries plus 210bp. Five-year credit default swaps have widened by 40bp to 174bp-184bp.

Pamplona Capital, a fund backed by Russian billionaire Mikhail Fridman's Alfa Group that owns a 9.3% stake in Nabors Industries, recently voiced concern about the company's share price performance. Pamplona said it has met with management to discuss the issue.

Spreads on the company's 5% 2020s and 4.625% 2021s are 16bp wider at Treasuries plus 226bp and 227bp, respectively. Five-year credit default swaps have widened by 15bp to 195bp-202bp.

Meanwhile, 10-year US treasuries were pushing against the psychological 2% level this week. The spike dried up flows in the primary US high-grade market and raised concerns that bond investors will suffer losses in their portfolios if Treasuries march up another 25bp-30bp. For more, see

The Federal Reserve this week signaled its intention of continuing its strategy of keeping interest rates low for the time being.

But the combination of a rise in demand for shareholder-friendly actions, increased prospects for leveraged or buyouts in a liquidity-flush environment and positive economic trends have made bond investors more vulnerable to losses in the medium to long term.

Investment-grade corporate bonds, with an average yield of just 2.7% and a duration of 7.2 years, would suffer a 5% loss if rates rise by one percentage point, according to Mike Gatlin, director of fixed income at T Rowe Price.

The investment fund is recommending floating-rate loans or leveraged loans as an investment option because they offer yields in the 5%-6% range with less interest rate and credit risk than high-yield bonds.

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