Brazil soars in wake of S&P upgrade Friday; Turkey down on EU worries

By Reshmi Basu and Paul A. Harris

New York, Sept. 20 - Brazilian paper surged in trading Monday in response to the news of Friday of an upgrade by Standard & Poor's, giving an overall lift to Latin American paper.

A day ahead of the Federal Open Market Committee meeting, the overall tone in emerging markets continued to be strong as the Fed is expected to move interest rates upwards by 25 basis points.

Boosted by the view that rising oil prices will ease consumer spending, the U.S. Treasuries market finished the day higher as the benchmark 10-year note flirted with 4%. Its yield fell to 4.06% from Friday's 4.13%.

Overall, emerging market debt was up. The JP Morgan EMBI+ rose 0.45%. Its spread to Treasuries was unchanged at 414 basis points.

"We saw a very good start to the week," said Enrique Alvarez, Latin American debt strategist for think tank IDEAglobal.

"Everything has been centered on the fact that you had a Brazilian upgrade late Friday.

"So that allowed the market to get off on the right foot," he said.

On Friday, Standard and Poor's lifted Brazil long-term foreign currency rating to BB- on the country's improved economic fundamentals.

"The Brazil advance has pulled the rest of the market upward," Alvarez said.

The Brazil bond due 2040 added 0.80 cents to 112.95 during Monday's session. Brazil's component of the EMBI+ rose 0.79%. Its spread to Treasuries tightened eight basis points to 458 basis points.

There are also a couple of side stories that helped Latin America, according to Alvarez, such as Fitch's upgrade to Venezuela's sovereign rating.

The Venezuela bond due 2027 added 0.85 points to 100.10 bid. Its component of the EMBI soared 1.13%. Its spreads tightened eight basis points to 473 basis points.

"Venezuela is also tracking Brazil," he added.

"And you've got the crude story for the oil producers - allowing them to trek upward.

"And then in Ecuador, you have a new story regarding a possible swap in the Ecuador '12 bond to release you from the call features," he noted.

All of those stories bundled together have contributed to a strong showing in Latin America, but the main driver is still the positive news coming out of Brazil, according to Alvarez.

Carry trade alive and well

The carry trade will continue. Not even a 25 basis point hike by the Fed will derail it, said Alvarez.

"The carry trade is very much alive. A quarter point is fully expected and not very relevant in the overall context of things.

"The carry trade is very much alive and one of the stalwarts of the Latam rally."

Argentina and bondholders

On Monday, International Monetary Fund managing director Rodrigo de Rato asked Argentine president Nestor Kirchner to increase the country's budget surplus and regain its footing in the international investment community.

Rato criticized as inadequate the country's plan to increase the budget surplus, excluding debt payments, to 3% of gross domestic product in a speech at the Council on Foreign Relations in New York.

However, market expectation is now that the government and bondholders will reach an agreement over nearly $100 billion of defaulted debt.

"I think the growing consensus is that Argentina will not give any significant sweetener to its restructuring deal - there may be a modest improvement in the deal, but not much - and they will simply accept 50% - 60% bondholder participation and leave everyone else trying to satisfy their claims in court," said an emerging market analyst.

"That, combined with increasing political control at the Central Bank after the [Alfonso] Prat-Gay resignation, has got a lot of the bondholders worried," he said.

On Friday, president Nestor Kirchner replaced Central Bank chief Prat-Gay with deputy foreign minister Martin Redrado.

"The increase in next year's primary surplus target, announced last week, is certainly welcome, but it hasn't been enough to get investors excited," he said.

Its bond due 2008 fell quarter of a point to 28¾ bid.

Turkey and Philippines down

Despite the good news in much of Latin America, there are a few country headlines pulling down sovereign prices.

Spreads for Turkey have widened on concerns that the nation will not overhaul its penal code. The European Commission warned that unless reforms take place by Oct. 6 negotiations over Turkey's membership into the EU would not take place.

Turkey's component of the EMBI+ fell 0.60% with its spread to Treasuries widening 16 basis points during Monday's session.

The Philippines had another rocky day, as president Gloria Macapagal Arroyo accepted the resignation of the heads of two state energy firms.

Over the weekend, Fitch Ratings agency warned that the country could face a downgrade unless it passed revenue measures within the next month.

"I think there would be material implications to the ratings outlook," Brian Coulton, Fitch Ratings' senior director for sovereign ratings told ABS-CBN television in the Philippines.

Philippines' paper was down. The bond due 2016 sank 2.125 points to 96 bid.

Its component of the EMBI dropped 0.18%. Its spread to Treasuries pushed out nine basis points to 454 basis points.

Halyk Bank on the road

In the primary market, Halyk Bank of Kazakhstan will start a roadshow for its $200 million five- to seven- year notes (Baa2/B+) on Thursday.

Credit Suisse First Boston and JP Morgan are running the bond offering.

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