Emerging market debt softer on technicals, Greenspan; bond fund inflows at $89 million

By Reshmi Basu

New York, June 9 - Emerging market debt was softer Thursday as investors took a time out from the market's recent run-up and new supply.

On Thursday, Federal Reserve chairman Alan Greenspan testified in front of Congress as to the health of the economy in the United States.

In his testimony, Greenspan said: "The U.S. economy seems to be on a "reasonably firm footing, and underlying inflation remains contained."

The word "reasonably" was a little less positive than what some people were expecting, according to Alberto Bernal, head of Latin America research for think tank IDEAglobal.

He also added that Greenspan's remarks on inflation were very bullish.

Nonetheless, there were no surprises as the Federal Reserve is expected to continue with its current monetary tightening campaign.

In spite of great anticipation for the event, emerging market debt shrugged off Greenspan's comments, according to a market source.

"The impact was very little to no impact," he added.

"He really didn't shock anybody," noted the source, saying that the speech was not about monetary policy, but a speech to the joint economic committee.

"Although in the question/answer session, he touched upon subjects which have a reasonable impact on the market, he said what he has being saying all along.

"The only quasi-controversial thing is that he pretty much contradicted what [Dallas Federal Reserve Bank president Richard] Fisher said last week in terms of being in the 8th inning of a tightening cycle," noted the market source.

Last Wednesday, Fisher surprised the markets when he said monetary tightening is "in the 8th inning," with the "9th inning" at the next Fed meeting on June 29 to 30.

"And Greenspan basically contradicted that today [Thursday] by saying there is no major slowdown coming," remarked the market source.

"We're still in our measured pace of tightening and there might be more than one or two more moves left. Don't expect us to stop, we don't see the data that supports that yet."

Additionally, some aspects of Greenspan's text were confusing, running slightly amuck when measured against the recent batch of economic data, said Bernal.

"The specific mentioning of the firming of the economy in the latest numbers is a little bit puzzling to some people because the latest numbers have not been that great," he said.

In his testimony, Greenspan added that "consumer spending firmed again, and indicators of business investment became somewhat more upbeat."

"Employment generation was not that great. And other corporates have also not been that great. So basically, he was more upbeat than some people were expecting and therefore you had the movement of more than five basis points on the 10-year," said Bernal in early afternoon.

The yield on the 10-year note had crossed above 4% shortly after the text of Greenspan's comments was released. But it rallied later and by late trading the 10-year note's yield stood at 3.96%.

"The talk of the economy having turned again was a little bit more bullish than expected, that's one of the reasons why the 10-year lost some ground at the beginning," observed Bernal.

Fund inflows at $89 million

Mutual funds saw a healthy positive flow this week, marking five straight weeks of inflows. Emerging market bond funds had inflows of $89 million during the week ending June 8, according to EmergingPortfolio.com Fund Research.

These funds now have had $3.245 billion of inflows year to date.

Global bond funds had inflows of $230 million this week. These funds have had $7.355 billion of inflows year to date.

Meanwhile, EmergingPortfolio.com Fund Research reported that emerging market equity funds saw better than expected inflows at $647 million.

EM softer

Emerging market saw a quiet session Thursday, according to the market source.

"I think things continue to be a little bit soft overall in EM as result of some recent supply and how that has traded.

"By in large, it's kind of quiet more than anything else," he replied.

During the session, the Brazil C bond was down 0.128 to 101.130 bid while the bond due 2040 fell half a point to 116.65 bid. The Russia bond due 2030 slid 0.38 to 110.62 bid. The Turkey bond due 2030 fell a quarter of a point to 140¾ bid.

The JP Morgan EMBI+ Index rose 0.08% while its spread to Treasuries tightened one basis point to 381 basis points.

"There was a really big rally coming into the last three to four weeks," said the market source.

"And now we've hit a point in which the technicals bid, which was driving the market, has subsided.

"Things have sold off and in conjunction with that, you had a fair amount of supply, which hasn't traded that great. So people have been licking their wounds over the last five days."

Philippines' troubles

The Philippines' debt also moved lower during the session, according to a trader, although he disputed claims that political scandals are dragging down the nation's bonds.

President Gloria Arroyo faces an onslaught of charges. Earlier this week, her spokesman released recordings, which he called an well-orchestrated scheme to bring down her administration, of illegally tapped phone conversations of Arroyo, which suggested she cheated to win last year's close election.

In addition, there is an inquiry as to whether members of her family took bribes from "jueteng" lottery operators.

"The reason Philippines is lower doesn't have to do with political noise," argued the trader.

"It has to do with lethargy and the entire emerging markets asset class.

"Brazil '40s were down more on the day than the Philippines' long end was at the open.

"Right now, with Treasuries down, we are basically about half point lower from the close," he said.

The trader added that the "political noise" is nothing new and has been out there since May.

"There's nothing newsworthy about it. It's just basically a rehash of an existing story that people are looking explain to explain a weakness in the stocks.

"It's not putting pressure on the bonds. You can look at price changes from the close of yesterday [Wednesday] to where we right now - with Treasuries down about five ticks in the 10-year space, which is about 15 cents. We're down more than that. We're down 50 cents. You know what, so is Brazil and everything else.

"There is nothing anomalous about the performance of the Philippines."

"There has been no selling."

New supply

The next weeks will usher in new supply, remarked sources, which will be a driving force behind activity in emerging market debt.

"There's going to be a fair amount of supply in the coming weeks, most of it is corporate if not all of it, so that's going to have the biggest impact on the market," remarked the market source.

Emerging markets is in the middle of a period of softness, according to the trader.

The market is seeing "the first bit of widening since the market turned [up] a few weeks ago" after the previous long decline, remarked the trader.

"And no one really has been unambiguously convinced that this is a correction as opposed to a trend before a tightening period," he said.

"Everybody is looking at this widening over the last few days as a test as to whether it is a reversal, i.e. a correction from that bear market that we've been since March."

Alternatively, the latest declines could be a return to the cycle of widening, he remarked.

"So it's got a lot of people confused and stymied here to what the future of the market holds," he explained.

Using that as a backdrop, he said there is appetite for new deals.

"But it is not insatiable. There is a limit to how much supply this market is going to take," he said.

As evidence, he refers to the Pemex deal, which he says has "languished" in the secondary, as has the recent euro-denominated deal from Mexico.

On June 2, Petroleos Mexicanos SA priced $1 billion of 10-year bonds at 99.788 to yield 5.777% and $500 million of 30-year bonds at 98.652 to yield 6.73%.

On Tuesday, Mexico priced €750 million of 10-year bonds (Baa1/BBB/BBB) at 99.505 to yield 4.312%, a spread of mid-swaps plus 107 basis points.

"The market is not in very good shape to absorb a lot of paper from names that people already own. If it's one-off name or if it's got a diversity value to it or it has a good story, it will do fine."

Latin American worries

Latin American paper was soft during Thursday's session, according to IDEAglobal's Bernal.

"The Brazilian situation - endogenous political issues - has come to have some impact.

President Luiz Inacio Lula da Silva's government has been accused of bribing lawmakers to win support for government-backed policies in Congress.

"That negative news coupled with the Chairman [Alan Greenspan] talking about firming inflation, which generated a little bit of steepening of the U.S. yield curve, has also affected the price of the real and the price of the Brazilian '40s."

The long-end of the curve has been more impacted, remarked Bernal.

"For example, the Colombia '33s are down right now almost a point. The Brazilian '40s are almost down to 116 from 117.2," Bernal said in early afternoon.

"The long end has been more affected by the latest occurrences, the talk of Greenspan and the political crisis," he remarked.

The main concern for Latin America is the lack of clarity on the U.S. interest rate front, said Bernal.

The second concern has to do with the re-emergence of political noise in Brazil.

"If things were to evolve in a bearish form, the economic cost for the region could be high," he said.

"The negative effect of bad politics or bad news on the political front in Brazil could have an effect on Brazilian asset prices.

"And therefore Brazilian asset prices will affect in a quasi-contagion manner most of the assets of the region," Bernal replied.

Furthermore, Venezuela is and will be an oil story, but rhetoric from president Hugo Chavez is putting a clamp on its bonds, said Bernal.

"Venezuela has underperformed this year, despite the lingering of oil prices at these very high levels. The reason that is so is because president Chavez continues to increase the decibels of his Republic by the day," he added.

Last year, investors were basically ignoring what he said.

"This year we are getting to be a little bit more cognizant of how bad those words are or how bad those words coming from Caracas are. That has constrained the appreciation capacity of Venezuela bonds," noted Bernal.

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