Ecuador, Argentina lead gains on hopes subprime crisis will ease; Pakistan better; CitySpring prices A$866

By Paul Deckelman and Aaron Hochman-Zimmerman

New York, Aug. 31 - Emerging market bonds were seen generally firmer in relatively thin trading on Friday, ahead of the Labor Day holiday weekend in the United Springs, which saw debt markets there operating on an abbreviated schedule Friday and closed entirely on Monday.

The better market tone was attributed to investor hopes that U.S. authorities would take concrete steps to limit the mortgage lending crisis which has roiled the markets over the past few weeks. Those hopes got a boost when president George Bush announced that he would allow the Federal Housing Administration to help homeowners who are delinquent on their mortgages; meanwhile, Federal Reserve chairman Ben Bernanke, scheduled to deliver a major speech later in the day, was quoted in the advance text of his address as saying that the U.S. central bank will "act as needed to limit the adverse effects on the broader economy that may arise from the disruptions in financial markets" - although he stopped short of specifically promising the cut in interest rates that some financial market participants had been hoping for.

With that better tone in place, the riskier, high-beta credits like Ecuador and Argentina were seen leading the way, as is generally the case when emerging markets as a whole advances. Widely held issuer Brazil's bonds were also seen firmer. Asian issues were generally quiet, although there was some firming in Pakistan's bonds on indications that the government of president Pervez Musharraf could reach agreement to allow a pair of exiled former rivals back into the country to take part in the political process.

The primary market was a little busier than the dearth of foot traffic around Wall Street or the lethargy of the past weeks would have indicated.

Singapore's CitySpring Infrastructure Management Pte. Ltd. managed to price an A$866 million bond ahead of Monday's U.S. Labor Day market holiday.

A buyside source called it "a push today for month's end," adding: "We don't see much momentum for next month."

Plenty of caution reminas

"I don't think much has changed," the buysider said about Friday's statements from president George Bush and Federal Reserve Bank chairman Ben Bernanke.

"[The market] is not going to be in a rush to move," the buyside source said.

The market will likely undergo a correction the week of Sept. 3, and the buysider advised investors to "stay defensive."

"We'll have kind of a friendly start, but the problem is not over," an emerging markets syndicate desk official said about emerging markets as the fall season sets in.

"I expect a little more widening," the official said.

"It's a long going. We haven't gotten anything [in] this period of high volatility [to say] that this will abruptly end," said an emerging markets strategist who specializes in emerging Europe.

There is a "very short sentiment in trade," the strategist said, referring to investor's preference given the reality of global volatility.

The "real economy" has not yet been affected.

"The turmoil has not contributed to a major sell off because the real economy has not felt the conditions of a lack of access to credit," the strategist said.

However the slowing U.S. economy may spill over to Europe and other markets within three or six months as worldwide liquidity continues to drop. Countries including Turkey, Hungary and many Baltic states are running "unsustainable deficits," the strategist added.

"Foreign capital will not be as accessible as it used to be," the strategist said.

But he added that the news was not all negative as some countries are showing positive signs.

"There are some countries which look reasonably robust; the Czech Republic is a country which is a safe haven for all of these regional deals," the strategist said. "Czech assets including currencies will outperform the regional peers."

"Slovakia looks to be on a good path," the strategist added. "Russia by default, is running surpluses."

It is not likely, but there is talk amongst investors about the credit crisis leading to an actual recession.

"People are discussing the idea of a recession," the strategist admitted, but did not indicate that it was a likely outcome, at least before the end of the year.

If a recession does grip the global economies, it will be predominantly "the countries with the lack of liquidity which will feel the heat," the strategist said.

A deal before the holiday

CitySpring Infrastructure priced an A$866 million offering (Aaa/AAA/) in one eight-year tranche worth A$486 million and one inflation-linked tranche worth A$380 million.

Goldman Sachs and Societe Generale acted as bookrunners for the deal, but declined to release complete terms.

Borrowing costs have been locked in with the underwriters since July 30 at an effective long-term interest rate hedge on the eight-year bonds around 5% and around 3.5% for the inflation-linked tranche, according to the company.

Proceeds are intended to finance the A$1.175 billion purchase of Australian power grid Basslink, the only electricity connection between southern Australia and Tasmania.

CitySpring is a government-owned holder of infrastructure assets based in Singapore.

"Despite extremely challenging market conditions, we have managed to execute this financing plan to closing, without any change to the financing assumptions," said CitySpring's chief executive officer Fai Au Yeung in a press release.

"This demonstrates CitySpring's strengths in the financial markets as well as our ability to structure attractive investment opportunities," he said.

Riskier assets in favor

Braced by the statements by Bush and Bernanke, as well as bullish government data on personal income and spending and economic activity as measured by the Chicago Purchasing Managers Index, U .S. stocks - considered a proxy for more risky asset classes, a category which also includes global equities, high yield bonds and emerging market debt - pushed higher Friday, although volume was limited because of the impending holiday break. Treasuries meanwhile retreated as signs lessened that the Fed might cut interest rates at its next meeting in mid-September - both the favorable data and lack of any stronger hint from Bernanke that such a rate cut might be coming. The yield on the benchmark 10-year note rose by 2 basis points to 4.53%, while two-year note's yield rose 4 bps to 4.14%.

Those movements, in turn, contributed to a narrowing of the average spreads between those Treasury yields and emerging markets yields, the key measure of investor tolerance of increased risk or aversion to it. The widely followed EMBI+ index compiled by JP Morgan & Co. came in by 6 bps to the 227 bps area.

High-beta names in the lead

The emerging markets advance was seen led by Ecuador, whose volatile bonds usually outperform the moves of the overall market, either to the upside or the downside. Its 10% dollar-denominated benchmark bonds due 2030 was quoted up 2½ points on the session at 88 bid.

Another high-beta name, Argentina, was likewise seen heading higher, with its 8.28% benchmark bonds due 2033 quoted up 1½ points at 86.25.

A source saw Buenos Aires' 2033 Discount bonds up 1 point on the day at just below 86.

The third member of that club, Venezuela, was likewise firmer, to a lesser degree, its benchmark 9¼% bonds due 2027 creping up about 1/8 point to 99.

Among the more steady Latin American names, Brazil's benchmark 11% dollar-denominated global bonds due 2040, considered the most liquid and widely traded emerging markets instrument, were quoted up nearly ¼ point at 132.125. Its 7 7/8% global bonds due 2015 firmed to 112, up nearly a point on the day, while its yield narrowed by 15 bps to 5.80%.

Asian issues mostly steady

Outside of Latin American issues, a New York-based trader in Asian bonds characterized the session as "a typical Friday before a holiday - we did see pretty much a firmer tone across the board today on the back of the positive economic news this morning. But we are once again in a mode where clients are pretty much quiet before the holiday. Everyone is staring at stocks, and prices are moving up and down in line with equities."

The trader said that on the whole, "I would say our marks are a couple of ticks tighter today across Asia, though with no real standouts, and very light flows," owing to the looming U.S. holiday, which saw many Wall Street desks effectively closed by 10 a.m. ET - four full hours before the debt markets' official close.

H e said that there was "very, very little flow. The only things that really traded today were the big benchmarks like the Philippines and Indonesia, but there was not a whole lot of passion there."

Earlier Friday in Asia, where participants took their cues from the generally steady and lackluster dealings seen during the North American trading day Thursday - Asia's overnight period - dealings were described as cautious, with marginal price moves, as market denizens speculated on what significant news Bernanke might announce.

Philippine sovereign 2031 bonds were being quoted pretty much unchanged at 106.375 bid, 106.75 offered, and its 2032 issue at 96 bid, 96.375 offered. The cost of hedging against a possible default in the bonds via credit default swaps was steady at around 180 bps on the bid side.

Pakistan firms as talks progress

Elsewhere on the Asian scene, the trader opined that "it actually looks like Pakistan's cash bonds were firmer overnight. We have seen some more interest in the name - but there's still a whole lot of confusion surrounding what is going on between [president Pervez] Musharraf and the former prime minister [Benazir Bhutto], and we're getting kind of mixed results. But it looks like overnight, cash is a little bit firmer, though bid-offers remain incredibly wide, so it's tough to really judge where this will go to near term."

At another desk, a source was pegging the cost of CDS contracts linked to the country's bonds at a wide 400/450 bps - in somewhat from levels at 465/485 at the start of the week. The narrowing is seen by the markets as a sign of increased investor confidence that the bonds won't be hurt by political turmoil.

Musharraf, the army commander who seized the Pakistani presidency in a bloodless coup in 1999 and then promptly exiled Bhutto and other potential rivals, is struggling to shore up his increasingly unpopular U.S.-allied government and gain legitimacy by winning a five-year term as president. Through their respective aides, he and Bhutto have been in talks for several weeks on a possible power-sharing agreement which might see Musharraf give up his control over the military and his power to dismiss Parliament and allow Pakistan's first woman prime minister to come back and campaign for her old job. Those talks - reported by the media to be on-again/off-again - are further complicated by the efforts of another exiled ex-prime minister, Nawaz Sharif, a critic of both Bhutto and Musharraf, to himself return to Pakistan and take part in its upcoming elections.

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