Emerging markets expects big September supply, seen absorbing it; Venezuela extends rally

By Paul A. Harris

St. Louis, Sept. 2 - Venezuela remainder the big story in emerging markets trading on a slow pre-Labor Day Friday. The country's bonds went from strength to strength, mostly on the back of high oil prices.

And sources tell Prospect News that despite outflows from the U.S. junk bond market, emerging markets funds remain flush with cash and are expecting more. On Friday fund researcher EmergingPortfolio.com reported in an email message that emerging market bond funds took in $170.7 million for the week ending August 31, taking their year-to-date net inflows past the $5 billion mark.

Hence the new deal pipelines, both sovereign and corporate, are building.

Among sovereign issuers, the Philippines is now expected to come first, possibly with a tap of its 2030 issue. However sources also anticipate Poland to come to the global market.

And news circulated Friday that Indonesia has mandated Citigroup, Credit Suisse First Boston and Merrill Lynch & Co. to lead its pending $1 billion deal - also possibly a reopening.

Well-oiled Venezuelan rally

In the run-up to Labor Day, the one emerging markets story that has perhaps commandeered the most attention is Venezuela's rallying bond prices.

Enrique Alvarez, Latin America debt strategist for research firm IDEAglobal, told Prospect News on Friday that Venezuela had been a significant outperformer throughout the week.

"It's a huge rally based on oil," Alvarez said, spotting Venezuela's 9¼% dollar-denominated global bond due 2027 at 111.75 bid, 112.0 offered, "up a dollar on the day," and its 10¾% dollar-denominated bond due 2013 at 120.35 bid, 121.0 offered, up 0.60 on the day.

Alvarez said that Venezuelan bonds had also derived some benefit from president Hugo Chavez's announcement late Wednesday that he was suspending a law authorizing debt issues this year and in 2006, thereby reducing future debt supply.

"Initially the market thought Venezuela was putting an end to its refinancing program," Alvarez explained.

"But it turns out what he was referring to was infrastructure programs. He's not going to run any debt for new ones. He has enough funding from the $6 billion or $7 billion that he's taking from the central bank."

Brazil, Ecuador, Venezuela the focus

Alvarez commented that the Latin emerging markets, at present, seem primarily to be focused on Brazil, where the political noise seems to have died down a little of late, Ecuador, which has been impacted by oil prices and politics, and the oil-driven rally in Venezuela.

"Those are the three main protagonists throughout the region," Alvarez said. "The rest is pretty quiet."

He spotted Brazil's benchmark 11% dollar-denominated bond due 2040 up half a point at 119.75 bid, 119.85 offered, and Ecuador's dollar-denominated 8% bond due 2030 at 89.0 bid, 89.75 offered, up 0.25 on the day.

"The market is getting a good edge higher due to the support of U.S. Treasuries and the theory now making the rounds that the Fed is going to have to pause in raising short term interest rates sooner rather than later, with some people stressing September as a possibility."

Will Fed fend off record gas prices?

Alvarez commented that the stakes have gone up for the Federal Reserve's Federal Open Market Committee as it ponders whether to continue its "measured pace" of short-term interest rate hikes when it convenes in September.

The record spike in gas prices at the pump coming in the wake of catastrophic Hurricane Katrina, which hit New Orleans at the beginning of last week, is causing some in the market to adopt the mentality that the Fed will pause the cycle of hikes, or even make a temporary return to the "accommodative" policy from days of yore.

"Of course you have to keep in mind that if the Fed goes into more of a pause it's only going to feed the real estate market," Alvarez pointed out. "And calming that market is one of their top priorities at this point.

"And it may also stir inflation because oil prices are bound to have some effect on inflation."

Meanwhile an investor pointed to Friday's news that unemployment in the U.S. fell to a four-year low of 4.9% in August, with companies adding 169,000 jobs, and told Prospect News that a change in the Fed's direction seems highly unlikely.

"After today's unemployment number and with the way commodities are acting, it could be difficult for the Fed to pause," the investor said.

"If they do they will be seen as weak on inflation, and that's not what they want to do."

Indonesia picks banks for a billion

Elsewhere Friday, the market learned that Indonesia has mandated Citigroup, Credit Suisse First Boston and Merrill Lynch & Co. to manage a pending $1 billion sovereign deal expected to come before the end of the year.

Earlier in the week a trader told Prospect News that Indonesia could come with a new issue or else tap its 7¼% global bond due 2015.

Weakness in the Indonesian rupiah had caused Indonesian debt to sell off earlier in the week, according to sources.

However the 7¼% due 2015, which had traded as low as 96.0 during the week, was spotted late Friday at 98.125 bid, 99.00 offered, and was said to be rallying with the rest of the market.

Opinions were divided among sources speaking Friday as to whether Indonesia could get a tap of the 7¼% due 2030 done. The preponderance of opinion seemed to hold that in light of its present currency problems Indonesia's deal would have to come at a significant premium.

"If they price it at 97.50 it could get done," an investor said. "There is plenty of demand out there. There is money coming in that has to go somewhere.

"The market is definitely better bid."

The investor said that further incentive for Indonesia to tap the 2015 would be that a tap would increase the benchmark status of the bond.

IDEAglobal's Alvarez also said there is cash to put to work in emerging markets bonds.

"In September and October you have very high ratios of coupon payments and amortization payments due for Latin American issuers," Alvarez said. "And that needs to be funneled back into the market.

"So any supply that comes should be fairly easily absorbed."

Alvarez also opined that the emerging markets at large would be keen to see how well an Indonesian transaction goes, as it will serve as a gauge of how strong the demand for paper is.

The sovereign pipeline

With cash ready to be put to work, market observers anticipate a significant September calendar to soon take shape.

In addition to Indonesia, The Philippines is expected to bring a deal. And again sources are anticipating an add-on, in this case a tap of the dollar-denominated 9½% sovereign bond due Feb. 2, 2030.

The original $1.5 billion issue priced at 98.131 on Jan. 26, 2005 to yield 9.7%. UBS, Deutsche Bank and Citigroup managed that transaction.

The Philippines then took the issue size to $2 billion with a $500 million tap of the bond that priced at 97.875 on May 9, 2005, resulting in a 9.726% yield. The tap was led by Deutsche Bank, HSBC and JP Morgan.

One source said Friday that existing Philippines paper was down on the day.

The other sovereign name out there Friday was Poland. A source said that Poland's $1 billion to $1.5 billion 10-year global bond (A2/BBB+) via JP Morgan and Lehman Brothers could be presented to investors as early as the week of Sept. 12.

Alvarez, when asked about the sovereign new issue pipeline, said that Brazil and Venezuela could not be counted out.

"With prices running up like this, and spreads as tight as they are, Venezuela must be considering giving it a go."

Corporates in the pipe

Also on Friday Prospect News heard that a significant buildup is expected in the emerging markets corporate pipeline.

One name that had the market buzzing Friday was Brazilian steel-maker Gerdau SA's $250 million - and possibly higher - offering of perpetual notes (Ba3/BB-) via HSBC and Citigroup.

One source told Prospect News that a spate of perpetual issuance from Latin American corporates could be in the offing as 2005 winds down, continuing a noticeable trend that was interrupted by the summer lull.

Also in the market is Korea Development Bank with a dollar-denominated deal (A3/A/A) via HSBC, JP Morgan and Merrill Lynch.

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