Emerging market debt stumbles on Brazilian scandal; Ecuador up on IMF accord

By Reshmi Basu

New York, June 6 - Emerging market debt slid on a developing corruption scandal in Brazil, but eventually retraced some losses Monday.

Political troubles are brewing for the administration of Brazilian President Luiz Inacio Lula da Silva. In the local newspaper Folha de S. Paulo, Roberto Jefferson, chairman of the government-allied Brazilian Labor Party, accused Lula's Workers' Party of paying a "monthly allowance" to a number of legislators in exchange for support for government-backed legislation.

While the report put pressure on all major Brazilian indexes, bonds were a little bit more insulated, said sources. The Brazilian Bovespa fell 3.7% on the news. The Brazilian real slipped 1.9%. Brazilian bonds also ticked down, but the price of the paper remained relatively high, said a trader.

"I expected some profit-taking this week since we had a pretty good run-up," he said.

"This was an invitation for people to sell."

During the session, Brazilian paper took a dip, but did retrace some losses. At 1:40 p.m. ET, the Brazil C bond was spotted at 101 5/8 bid while the bond due 2040 was quoted at 117.85 bid. At session's close, the C bond was down 0.188 on the day at 101.812 while the bond due 2040 was 1.35 points lower to 118 bid.

"At 118, it's still near highs," remarked the trader.

Brazil corporates were "also about a point softer from Friday's highs across the board," partially due to the news, according to a Brazilian corporate analyst.

"The prices in bonds came off two to three points," said a Latin America debt strategist for Refco EM.

"The Brazilian '40 reached 120/121 [bid] on Friday. And then it closed at 1171/2. It opened at that level today [Monday] and now it's 118.30. I don't see a lot of movement in prices in Brazil in bonds and corporates," he added.

The concern is that the story could develop into a major sore spot for the administration, said the strategist.

"It's hard to quantify at this point what the consequences are of such allegations," he added.

"The market usually takes initially a very negative reaction. You've seen it before,"

Political turmoil is nothing new to Lula's administration. Last year, the administration was rocked by allegations that Waldomiro Diniz, a former aide to Lula's cabinet chief, Jose Dirceu, accepted campaign bribes on behalf of his Workers' Party from what was called an illegal gambling business in 2002.

"The fear is that as [Lula's] support wanes, so will fiscal control," said a trader. "But we'll have to see whether this dies down. It's too early to say," he said.

On Friday, Brazilian paper began its descent on weaker than expected non-farm payrolls in the United States. Only 78,000 jobs were added.

The strategist noted that locals might have known some trouble was looming and decided to shed risk before the report broke out.

"On Friday, it could be a combination that locals knew what was happening - maybe it was an earlier reaction by locals ahead of this report," he said.

There were also stories of an important west coast fund selling paper as well as stories of profit taking.

"The market will wait and see today [Monday] on any further developments on the accusations and from then on will take a view on a position," remarked the strategist.

"My reading on this is that after prices saw the lows of the day they came back half a point. Seems like the market is beginning to ignore the reports a little bit."

Ecuador up, rest down

Meanwhile, Ecuador was the day's exception as its paper rose in trading on news that that the International Monetary Fund had reached an agreement with Ecuador to monitor the country's economy on a quarterly basis.

During the session, the Ecuador bond due 2012 moved up a quarter of a point to 93¼ while the bond due 2030 added 0.30 to 79.55 bid.

Other losers on the day included Mexico, Russia and Venezuela. The Mexico bond due 2009 slid half a point to 119.30 bid. The Russia bond due 2030 slipped 0.938 to 110.562. The Venezuela bond due 2027 fell 0.45 to 100.55 bid.

Asian market grinds higher

According to a market source, Asian markets saw better demand for high-quality credits at the end of Monday's session in Asian.

The source added that there was real money demand for Noble Group Ltd., Bangkok Bank, Hanaro Telecom and for subordinated debt from Korean banks.

Looking ahead, the macro economic report calendar is light for the United States this week.

"We shouldn't expect to see a lot of uncertainty," said the strategist.

Emerging market debt is on hold, said sources as the market looks for clarity from Federal Reserve chairman Alan Greenspan. He speaks twice this week. He will address central bankers in Beijing, due around 1 a.m. GMT on Tuesday, and will deliver testimony on Thursday in front of Congress.

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