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Wachovia CDS spreads tighten, shares fall

NEW YORK, June 18 (Reuters) - Wachovia Corp's WB.N credit protection costs fell on Wednesday amid rumors that Warren Buffett is making an investment in the bank, a dealer said, though Wachovia's shares fell and options analysts discounted the speculation.

Five-year credit protection costs on Wachovia fell to 185 basis points, or $185,000 a year to protect $10 million of debt, in from about 202 basis points before the rumors, according to Phoenix Partners Group. Falling protection costs indicate a more bullish view by investors. Earlier in the day, the swaps had widened by about an equal amount.

Spokesmen for Wachovia and Warren Buffett were not immediately available for comment.

“There is unconfirmed speculation that Warren Buffett is considering an investment in Wachovia,” said Paul Foster, option strategist at Web information site theflyonthewall.com in Chicago. “But this kind of speculation has surfaced before and it has not materialized.”

Two credit market traders confirmed that spreads were moving on the rumor.

Wachovia’s shares fell 51 cents or about 3 percent to $16.65 on the New York stock exchange.

Options analysts said there was also active buying of the bank’s puts in anticipation of a drop in its shares.

“There has been a consistent high level of negative apprehension among options traders since last Wednesday on concerns regarding Wachovia’s loan portfolio,” said Rebecca Engmann Darst, equity options analyst at Interactive Brokers Group in Greenwich, Connecticut.

According to option analytics firm Trade Alert, roughly 70,000 puts, which give the right to sell the stock, moved, compared to 37,000 calls, in the afternoon session.

“I have not heard any specific rumors about Wachovia. We know that it took a hit last week fueled by news of Downey Financial Corp,” Darst said.

Downey Financial CorpDSL.N, one of the largest savings and loan holding companies in California, said last week that one-seventh of its total assets were nonperforming and bad loans were up nine-fold from May a year ago.

The news fanned worries about Wachovia’s mortgage portfolio, contributing to a 10 percent drop in its shares on Friday to their lowest level since 1992.

Charlotte, North Carolina-based Wachovia in April had raised $8.05 billion of capital and cut its dividend 41 percent after a surge in losses tied to its portfolio of option adjustable-rate mortgages.

Implied volatility, the expected magnitude of share movement based on option prices, has remained very high in Wachovia, Darst said.

Overall implied volatility stood at around 104 percent early on Wednesday, up from 103 percent on Tuesday and 76.5 percent last Thursday, according Interactive Brokers’ data.

“We have seen very heavy volume in out-of-the money put strikes in July and October since last Friday. The big mover on Wednesday has been the July $15 put strike, allowing investors to sell Wachovia shares at $15 apiece, Darst said.

More than 17,600 contracts traded in the July $15 strike price against open interest of 52,380 lots at a price of $1.30 a contract. (Reporting by Doris Frankel in Chicago; additional reporting by Dena Aubin in New York and Jonathan Stempel in Bangalore)

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