Emerging market debt unchanged on squaring of positions; two corporates price

By Reshmi Basu and Paul A. Harris

New York, Sept. 22 - Emerging market debt pared down earlier losses Friday as the sell off in U.S. equities lost some intensity towards the end of the session. In the primary market, two corporates priced deals.

Emerging markets opened weaker Friday on increased risk aversion stemming from a variety of concerns, both on the local political front as well as from the U.S. economic side.

The asset class saw a volatile session as it tracked a softer U.S. equities market, which retreated for the second straight day on fears that the slowdown in the United States is gaining speed. Thursday saw U.S. stocks come off following a report that showed that factory activity contracted in the Mid-Atlantic region for the first time since May 2003.

The U.S. economic picture, along with political troubles in countries such as Brazil, Ecuador, Hungary and Thailand, has been testing investors' appetite for risk during recent sessions. On Thursday, the JP Morgan EMBI Global index widened by 12 basis points.

And that unwinding of positions carried into much of Friday's session.

Even as U.S. Treasuries staged a strong rally for the second day, emerging markets remained skittish, a sign that that global growth fears are weighing more on investors' minds than the short-term Federal Reserve outlook, according to a market source.

For most of the day, Latin American credits were negative but as equities shored up losses from mid-afternoon onwards the region ended the session unchanged to slightly positive on the EMBI+ Index, a surprising occurrence, according to Enrique Alvarez, Latin America debt strategist for think tank IDEAglobal.

He added that higher beta credits saw the blunt of the downward pressure on Thursday and Friday on short-covering

"I think you have a lot of fast money crowd in this type of market," he said, noting that "those drops that you had in those high beta credits are systematic of people shorting the market."

Essentially, there was a drive for a continuation of Thursday's price action. And once it was realized in late afternoon that the momentum could not continue as the sell-off in stocks began to ease, the fast money crowd was quick to cover and square up positions ahead of the weekend, described Alvarez.

Brazil rebounding from graft probe

Brazilian local markets closed unchanged Friday. Previous sessions have seen sentiment weakened by Thailand's military coup, the U.S. growth story and a brewing corruption scandal. On Wednesday, it was learned that the country's Supreme Electoral Court had opened a probe into whether president Luiz Inacio Lula da Silva played a role in an alleged scheme to purchase documents meant to discredit the opposition party.

But by no means will it jeopardize Lula's re-election bid, according to market sources. However, the concern is how this latest scandal will impact Lula's ability to preside in his next term and whether or not economic and fiscal reforms will be sacrificed.

Lula has since attempted to distance himself from the scandal by replacing his campaign manager.

In the last couple of sessions, the news has seen more resonance in local markets, which filtered into the country's sovereign curve.

"Today [Friday], Brazil has been weak but not by a very large margin. And it's been able to bounce back late in the afternoon on short covering," noted Alvarez.

The fallout from the story has since eased, Alvarez said, but he warned that the weekend may see more eruptions of negative headlines.

"Traditionally in Brazil, you have a lot of bombshells revealed over the weekend, especially by the political magazines. At least for now, it looks like the initial impact is starting to fade," he added.

In trading, the Brazilian bonds due 2040 added 0.20 to 129.05 bid, 129.15 offered.

Palacio's comments taken out of context

Ecuador saw short covering Friday, enabling a rebound from losses triggered by comments made by president Alfredo Palacio, who told investors in New York on Thursday that an external debt renegotiation is "absolutely necessary."

He added that he wanted to change maturities on bonds in order to make servicing the debt cheaper.

Ecuador has already come under pressure in recent weeks on election jitters. This past week, polls showed that former finance minister and friend of Venezuelan president Hugo Chavez, Rafael Correa, has gained in popularity leading into the Oct. 15 presidential election.

On that news, Ecuador emerged as the underperformer on Thursday as its spreads kicked out by 30 basis points.

Nonetheless, market sources noted that Palacio's comments were taken out of context. He clarified his position on Friday by saying that Ecuador still needed to honor its debt obligations.

But Palacio does not exactly register at the top of the list of worries. After all, his term is coming to an end. It is Correa that has the market on edge, noted sources.

During the session, the Ecuadorian bonds due 2030 edged up 0.60 to 92.50 bid, 93.50 offered.

Buy on dips?

Whether or not investors will buy on dips depends on how events unfold and whether or not that will dull investors' appetite for risk.

"If you look at the market this afternoon, and said that positions have already been covered, they [investors] may buy on the dip on Monday, but it all depends on what develops," remarked Alvarez.

The laundry list of potential risks includes: the unfolding of Brazil's political story, the riots in Hungary, the fallout from the military coup in Thailand, and the confrontation between Venezuela's president Hugo Chavez and the United States.

In his speech to the U.N. General Assembly, Chavez called president George Bush "the devil."

And there is even more to add, the meltdown of hedge fund Amaranth Advisers LLC, which lost $6 billion in trading natural gas futures this month, may result in more cross selling.

"There will be some brave souls that will buy on the dip on Monday, but I think it's going to be very news-dependent on what happens over the weekend," Alvarez observed.

Two corporates price

In primary action Friday, two corporates priced deals.

Mexico mortgage company Hipotecaria su Casita SA de CV Sofol sold a maiden offering of $150 million in 10-year senior notes (Ba3/BB-) at par to yield 8½%.

The notes will be callable after five years at 104.25.

Credit Suisse was the bookrunner for the Rule 144A and Regulation S transaction.

And Russian steel pipe producer OAO TMK sold $300 million of three-year notes at par to yield 8½%.

The deal came in line with price guidance for a yield in the 8½% area.

Credit Suisse, Dresdner Kleinwort and Citigroup were lead managers for the Regulation S transaction, which was issued via TMK Capital.

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