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Gaming Industry Bonds Lead the Pack

NEW YORK -- Returns from gaming industry bonds led competing investments in 2002, but analysts, while optimistic, warn a repeat performance in 2003 is unlikely.

The Deutsche Bank index for gaming industry, grade B bonds beat out U.S. Treasury-issued grade B bonds in 2002, and the Dow Jones casino index for stocks.

Investments in gaming industry bonds on the average returned investors almost 13 percent, compared with a return of less than 3 percent on comparably rated Treasury issues, said Deutsche Bank analyst Andrew Zarnett.

Also by comparison, investments in gaming stocks included in the Dow Jones casino index gave investors an average return of just under 10 percent, compared with the Dow Jones Industrial Average which fell 25 percent in 2002.

"It was a good year for high-yield, gaming bonds and casino stocks also," Zarnett said.

Generally, mutual funds, insurance companies and pension funds invest in the bond market, rather than individuals, because incremental units come in denominations of $1,000 so the average price is significantly higher than a unit of stock, he said.

However, individuals invest in the bond market, including gaming bonds, through investments in mutual funds, Zarnett said.

Companies offering mutual funds invested in gaming bonds include Merrill Lynch, American General Financial Services, Putnam Investments and Federated Investors Inc., industry sources said.

Gaming industry bonds fared well in 2002 because the industry generally had no additions to capacity, strong cash flow generation and reduction in leverage or company debt service burdens, Zarnett said.

Strongest Las Vegas bond performers in 2002 were Station Casinos (17 percent), MGM Mirage (14 percent), Mandalay Resort Group and Boyd Gaming (13 percent each) and Coast Casinos (13 percent). The weakest were Park Place Entertainment Corp. (12 percent) and Aztar Corp. (6 percent).

"We don't expect a replay in 2003, although strong fundamentals should generate solid returns," Zarnett said.

Analysts agree Station Casinos should be an industry leader, partially because the Las Vegas locals market liberates it from the effects of the sluggish national economy and prospects for the opening of the Thunder Valley Casino in Northern California, which it will operate.

"Station is currently contracted to manage the facility for a fee equal to 24 percent of the income from the property," Applied Analysis spokesman Brian Gordon said.

Still, there are storm clouds on the horizon for the gaming industry in general, including prospects for international conflict, analysts agree.

"Over the past 16 months, the decline in international visitation to Nevada has been tremendous," Gordon said.

"With all the speculation surrounding military conflict in the Middle East, it is vital to consider the negative impacts it generates on our local economy, including the valuation of the gaming operators impacted by such speculation," he said.

"We typically witness a lag in international travel from international conflicts. While the local economy is still somewhat dependent on international visitors, it is vital to understand that these visitors book their travel six to 12 months in advance," Gordon said.

"Las Vegas is still far down on many international travelers' lists of places to visit in the near term. As increased flights from Asia and Europe continue, Las Vegas should expect an increase in dollars to both gaming operators and the state. The economic activity generated by these visitors is a significant part of our economy. And the third quarter of 2003 will provide tremendous insight into the psyche of foreign travelers to Las Vegas in the balance of 2003 and beyond," Gordon said.

Other causes of concern include Nevada tax policy and the prospects of tax increases elsewhere, he said.

"With the current fiscal imbalance in revenues and expenditures at the state level, I believe it will be important to see what this year's legislative session will include to fill the gap in the current fiscal shortfall," he said.

Zarnett, however, said there is little reason for concern about tax policy in Nevada for the gaming industry.

"The gaming lobby has so much power it'll be an acceptable solution for the industry and the state can be expected to distribute the burn equally. The state understands the importance of the health of the gaming industry," he said.

The imperative to solve fiscal problems elsewhere, Zarnett said, will lead to gaming expansion in Illinois, Massachusetts, Pennsylvania, Kentucky and possibly Ohio, but that added taxes will be paid out of increased revenues raised at lower incremental costs.

Therefore, he does not expect the added taxes collected by different states to have adverse consequences on the financial performance of the leading gaming companies.

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