Emerging markets gain as day progresses; ADB prices local deal; primary still waiting

By Paul Deckelman and Aaron Hochman-Zimmerman

New York, Aug. 6 - Emerging markets debt started on a slow, weak footing Monday, as traders in Asia tried with only mixed success to shake off the hangover from Friday's session, which had started out on a positive note but which quickly turned sour after worse-than-expected U.S. July jobs-creation data. But as the Monday's session wore on, things began picking up, particularly in Latin American debt trading, in names such as Argentina and Brazil, encouraged by a powerful surge on Wall Street as stocks of financial companies rose on speculation the government will take steps to limit losses in mortgage lending. Philippines five-year credit default swaps costs fell back from the higher levels seen in overnight trading.

By the end of the day, the major U.S. equity indexes had risen sharply, with the S&P 500 up 34.61 (2.4%) to 1467.67 and the bellwether Dow Jones Industrial Average rallying by 286.87 (2.2%), to 13,468.78. Meanwhile, U.S. Treasury prices fell, and the yield on the benchmark 10-year Treasury notes went up 6 basis points to 4.74%.

That in turn encouraged some spread-tightening between emerging markets debt and Treasuries, with the JP Morgan EMBI+ index showing the average spread - a key measure of investor risk tolerance or aversion - tightening by 5 bps to 214 bps.

In the primary market, Philippines' Asian Development Bank (ADB) began the week with a positive as it priced a 6 billion Kazakh Tenge local-currency deal worth $49 million.

But otherwise the new issue arena continued to wait for better market conditions.

EM follows stocks upward

A New York-based trader in Asian issues characterized the market as "a bit of a roller-coaster - not so much in our stuff as elsewhere, but we've obviously been dragged around with the rest of the market - closing with a much better tone, where stuff is trading."

For instance, he said, the cost of 5-year CDS contracts on Philippine debt, which had initially traded Friday during the U.S. session at levels around 185/195 bps, traded as high as 215 bps during the overnight period heading into Monday's activity, and last traded around 194 bps.

"So we're getting back toward how we opened the market on Friday," before a late downturn in U.S. stocks dragged emerging market debt down along with it, "having been 20 or 30 [bps] wider over the course of the trading session," he said.

And he pointed out that "we're starting to see buyers emerge for a relatively broad range of paper." But he added that "for the market to start to stabilize, we're going to need to see some increased breadth in the market."

He noted that over the last three or four sessions, "most of [the activity] has been taking place in hedging instruments" like the 5-year Philippine and Indonesian CDS contracts, or, among the cash issues, among Hutchison Whampoa 2033 bonds, "etc., so it's not till you start to see some broadening of the demand, that you'll think the market is doing better."

Recovery? Too soon to tell

He added that although the market turned upward on Monday, it's too early to say that recovery is at hand, especially since "it's still very much dependent on what happens in broader markets."

The trader characterized Indonesian paper as "slightly tighter than Philippines," but added that most of the liquidity is in Philippine CDS. "There isn't that much trading in Indonesia currently."

Among corporate issues, he said, he said they are "not really" going anywhere. "You had a reasonable amount of inquiries in Hutchison Whampoa '33s, but not all that much trading.

Elsewhere, "we're starting to see some buying in Malaysian and Korean paper - but I think you need multiple sessions of similar types of flows before you get some confidence that the market's got some depth to it."

Indian bank paper, meantime, remains "very illiquid. It has been the underperformer, certainly on the high-grade side of things."

While "we have seen pockets of buying - but equally, there's still some liquidation pressure as well. So we need to have a good few sessions of relative stability before you start to see that market opening up properly and get decent two-way transparency."

Earlier in the session, Asian issues had been down during the local trading day, with spreads on Hutchison Whampoa's bonds seen about 5 bps wider than they were on Friday, at 193/190 bps over Treasuries.

Latin sovereigns on the rise

But once U.S. stocks kicked in with a big rally, EM bonds went along.

Brazil's benchmark 11% dollar-denominated bonds due 2040 were seen having gained ¾ point to stand just below 130.5, while its 7 7/8% global bonds due 2015 also firmed, to 110.1.

However, the price of a five-year CDS contract on Brazil's debt was up about 4 bps at 112.5 bps.

The more risky bonds of Argentina were seen up for the first time in three sessions, with the 8.28% dollar-denominated benchmark bonds due 2033 seen rising ½ point to 82.

An analyst who watches Latin American debt said in a research note that "the current sell off may well represent a repricing of risk leading to permanently higher spreads. Nevertheless, all indicators so far suggest that the market will eventually stabilize."

If this happens, the analyst continued, "CDS basis should compress, dislocations in relative country spreads should reverse, and some of the more extreme movements in bond prices should correct."

Primary still on hold

This week looks to be very similar to last week, according to an emerging markets syndicate desk official.

"Same as we were last week, waiting and watching," the official said about the action at the syndicate desk.

The new issue pipeline is expected to remain dry this week and continue in that fashion into September, according to an emerging markets analyst.

"The fact that we're in August makes a big jump in new issuance very difficult in the next few weeks," the analyst said.

Even when the pipeline begins to move it will not unleash a flood of backlogged deals, according to the analyst.

"I think the new issuance pipeline will be very timid at first, if [and] when it gets going," the analyst said.

"Even in September, though, when the market usually reopens with a bang, I think the best case scenario is a moderate recovery led primarily by better-known, higher-credit deals," the analyst said.

"By my count, we've averaged $17.1 billion in new EM issuance in the last three Septembers, but I think the market will be lucky to hit $12 billion of new issuance in September, and a more likely scenario is probably around $8 to $10 billion done next month," the analyst added.

On the other hand, one market source is predicting a drastic increase of new issues in the fall.

"The floodgates will open once the markets have come to terms with the implications of the subprime crisis," the source said.

Although, in the short-term there will be no relief from the U.S. subprime troubles which have taken their toll on emerging markets, according to another market source.

The market source acknowledged last week's rebound in the equity market, but did not predict any wide-reaching benefits.

Another market source asserted that the correction in equity has not finished.

The source reiterated the idea that the problems in emerging markets are originating from outside the asset class and that emerging market fundamentals are still solid.

However, the market will remain volatile in the short term, the source said, adding cautionary words about an oversupply in the new issue pipeline.

ADB prices local Kazakh deal

Asian Development Bank priced 6 billion Kazakh Tenge 10-year notes (Aaa/AAA/AAA) at par to yield 6.8%.

The size of 6 billion Kazakh Tenge is the equivalent of $49 million. Interest will be paid in dollars.

JP Morgan was bookrunner for the Manila, Philippines-based development bank.

Proceeds from the sale will be used to fund non-sovereign lending as well as fund the development of infrastructure and banking in Kazakhstan.

"This bond issue will assist in developing a long-term yield curve in Kazakhstan by providing a pricing reference for international triple-A rated issuers in Kazakhstan Tenge," ADB Treasurer Mikio Kashiwagi said in the press release.

"It accentuates ADB's confidence in the Kazakhstan economy and we are very grateful for the support of the Kazakhstan authorities in making this transaction possible," Kashiwagi added.

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